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Stiff the IRS for the Next 100 Years

Dan Caplinger (TMF Galagan)
May 29, 2008

Many investors haven't had access to one of the best ways to save for retirement. In a couple of years, however, everyone will have a chance to give the IRS a century-long vacation from collecting tax on their investments.

Roth IRAs give retirement savers the opportunity to invest money in nearly anything they want without having to pay taxes. Currently, however, those whose adjusted gross income is more than the applicable income limits -- $116,000 for singles and $169,000 for married couples in 2008 -- aren't allowed to contribute to Roth IRAs. An even lower limit -- $100,000 for everyone -- applies to prevent many people from converting traditional IRAs to Roth IRAs.

In 2010, the limit on Roth conversions is slated to go away. Although income limits will still apply to regular contributions, being able to convert money in old 401(k) accounts and traditional IRAs is worth a lot more than depositing a few thousand dollars every year.

Why pay tax now?
With a few exceptions, the smartest move is to put off paying income tax as long as possible. But if you decide to do a Roth conversion, you'll have to pay tax on the money you convert. So what's the big deal? Why pay more tax than you have to?

Even with the higher tax bill, there are some big advantages to doing a Roth IRA conversion:

  • Many are concerned that income-tax rates will go up sooner or later. If the current low rates still apply in 2010, then converting lets you lock in those low rates and avoids higher taxes later.
  • If you convert during 2010, you can spread your tax liability out across the 2011 and 2012 tax years. In subsequent years, you have to pay tax the same year.
  • Unlike traditional IRAs, Roth IRAs don't force you to take money out if you don't need it. That opens the door to a very effective estate-planning technique, where you can pass on your Roth IRA to your heirs, who can then enjoy tax-free distributions throughout their lives.

It's that last point that's the most powerful. Think about it: You enjoy tax-free growth for the rest of your lifetime. Then, if you leave your Roth IRA to your kids or grandkids, they won't pay income tax, either -- they just have to take withdrawals based on their life expectancy. Depending on how old you and your kids or grandkids are, that can easily add up to 100 years or more of dividends and capital gains -- all tax-free.

To get just a glimpse of how much you can save in taxes, go back 40 years and look at how some well-known stocks have performed since 1968:


$10,000 Invested in 1968 Is Now Worth:

Potential Tax Avoided




General Motors (NYSE: GM  )



Hewlett-Packard (NYSE: HPQ  )



Caterpillar (NYSE: CAT  )



Boeing (NYSE: BA &nbs