Roth IRA

You can contribute only after-tax dollars Contributions to a Roth IRA are never tax deductible on your federal income tax return. In other words, you can contribute only after-tax dollars to a Roth IRA. This is in contrast to a traditional IRA, which may allow you to deduct your contributions under certain conditions.

Contributions are limited to the annual maximum (or possibly even less) You cannot contribute a total of more than $5,000 per year to all of your IRAs (Roth and traditional) for 2008 ($6,000 if you’re age 50 or older by the end of the calendar year).

Example(s): You have two traditional IRAs and a Roth IRA. You can contribute no more than $5,000 overall in 2008. You can contribute the entire $5,000 to any of the three IRAs, or you can divide the $5,000 contribution among them in any manner you choose.

Tip: You may also be able to contribute up to $5,000 to an IRA in your spouse’s name in 2008 even if he or she has little or no taxable compensation ($6,000 if your spouse is age 50 or older). See Spousal IRAs. Caution: The Pension Protection Act of 2006 provides that an active reservist or guardsman who receives a qualified reservist distribution can repay all or part of that distribution to an IRA at any time during the two year period beginning on the day after active duty ends (or, if later, the two year period beginning August 17, 2006). The regular IRA contribution limits don’t apply to these repayments.

Caution: The Pension Protection Act of 2006 allows certain individuals who participated in the Enron Corporation 401(k) plan to make special IRA catch-up contributions of up to $3,000 per year for tax years 2007 through 2009. The regular IRA contribution limits don’t apply to these repayments. Taxpayers who make these special contributions aren’t allowed to make age 50 catch-up contributions.

Tip: The annual contribution limits don’t apply to rollover contributions.

Your ability to contribute in 2008 depends on your income and tax filing status

*These income ranges are indexed for inflation each year.

Tip: If you are married but did not live with your spouse at any time during the year and you file a separate return, you are considered single for Roth IRA contribution eligibility purposes.

Withdrawals are taxable under certain conditions A withdrawal from a Roth IRA (including both contributions and investment earnings) is completely tax free only if it is a qualified distribution (see Strengths, above).

If your withdrawal is a nonqualified distribution, the portion of your distribution that represents investment earnings will be subject to federal income tax, and may also be subject to a 10 percent premature distribution tax if you are under age 59½ (unless one of the exceptions applies). Only the portion of a nonqualified distribution that represents your contributions will not be taxed or penalized, since those dollars were taxed once already.

Caution: Long-term capital gains are generally subject to tax at rates that are lower than ordinary income tax rates. Additionally, under the Jobs and Growth Tax Relief Reconciliation Act of 2003, qualifying dividends paid to individual shareholders from domestic corporations (and qualified foreign corporations) are taxable at the lower long-term capital gains tax rates as well. Taxable distributions from IRAs that represent such long-term capital gains and dividends, however, will not enjoy this tax benefit–they are taxable at ordinary income tax rates.

Special penalty provisions may apply to withdrawals of Roth IRA funds that were converted from a traditional IRA If you roll over or convert funds from a traditional IRA to a Roth IRA, special rules apply. If you are under age 59½, any nonqualified withdrawal that you make from the Roth IRA within five years of the rollover or conversion may be subject to the 10 percent premature distribution tax (to the extent that the withdrawal consists of converted funds that were taxed at the time of conversion). The reason for this special rule is to ensure that taxpayers don’t convert funds from a traditional IRA solely to avoid the early distribution penalty. See Converting or Rolling Over Traditional IRAs to Roth IRAs for more information. See Premature Distribution Rule for exceptions to the 10 percent penalty tax.

Tip: The five-year holding period begins on January 1 of the tax year in which you convert the funds from the traditional IRA to the Roth IRA. When applying this special rule, a separate five-year holding period applies each time you convert funds from a traditional IRA to a Roth IRA.

Caution: This 5-year period may not be the same as the 5-year period used to determine whether your withdrawal is a qualified distribution.

Example(s): In 2005 you open your first Roth IRA account by converting a $10,000 traditional IRA to a Roth IRA. You include $10,000 in your taxable income for 2005. You make no further contributions. In 2008, at age 55, your Roth IRA is worth $12,000, and you withdraw $10,000. The distribution is not a qualified distribution because 5 years have not elapsed from the date you first established a Roth IRA. And because you are making a nonqualified withdrawal within 5 years of your conversion, the entire $10,000 is subject to a 10% premature distribution tax unless you qualify for an exception. This “recaptures” the early distribution tax you would have paid at the time of the conversion. You open a regular Roth IRA account in 2001 with a contribution of $100, and make no further contributions to the account. In 2005, at age 60, you convert a $100,000 traditional IRA to a Roth IRA. In 2008 you withdraw $50,000 from this Roth IRA. Because you are over age 59½ in 2008, and because more than 5 years have elapsed from January 1, 2001 (the year you first established any Roth IRA), your withdrawal is a qualified distribution and is totally free of federal income taxes. Even though your withdrawal was within 5 years of the conversion, no penalty tax applies.

States differ in their treatment of Roth IRAs Although most states follow the federal income tax treatment of Roth IRAs, some may not. You should check with your tax advisor regarding the tax treatment of Roth IRAs in your particular state. In addition, some states may provide Roth IRA funds with less creditor protection than they provide traditional IRA funds.

Tip: Federal law provides protection for up to $1,095,000 (as of 4/1/07) of your aggregate Roth and traditional IRA assets if you declare bankruptcy. (Amounts rolled over to your Roth IRA from an employer qualified plan or 403(b) plan, plus any earnings on the rollover, aren’t subject to this dollar cap and are fully protected.) The laws of your particular state may provide additional bankruptcy protection, and may provide protection from the claims of your creditors in cases outside of bankruptcy.

The law may change in the future Most of the advantages offered by the Roth IRA depend on the federal government’s promise that qualifying distributions from Roth IRAs will always be tax free. It is unlikely, but if the law changes, all bets are off. Remember that Social Security benefits were once not subject to federal income tax, but federal law was later changed to tax a percentage of such benefits in certain situations.