Your IRA May Need Attention Before Year End
Over the years, individual retirement accounts, or IRAs, have become an increasingly important part of the assets of many Americans.
In fact, as retirement vehicles go, IRAs are the single largest such vehicle of all U.S. retirement assets, according to some studies. And like other vehicles (pun intended), if you have an IRA, it needs some maintenance from time to time.
Year end is the ideal time to "take a look under the hood", and what follows is a list of things you may need to look into before the year is out.
1. Have you made excess contributions? If you made contributions during the year, it is possible that you have contributed too much. The maximum amount you can contribute is $5,000 ($6,000 if you are age 50 or older).
However, there are a number of limitations on the amount of contributions you can make to an IRA depending on your income and work status. In fact, if you are an active participant in an employer sponsored plan, you may not be able to make a deductible contribution at all.
If you have contributed too much, you will have to pay a 6% excess contribution penalty unless you remove the excess before year-end.
2. Have you taken required minimum distributions (RMD)? If you are over age 70½ or have inherited an IRA, you are required each year to take an RMD by year-end. The amount of the RMD is generally determined by IRS tables based on the value of all of your IRA accounts at the end of the prior year and your life expectancy.
Failure to take the RMD results in a pretty hefty penalty, so be sure you know whether or not you are subject to the RMD rules and if so, make that distribution.
3. Do you know who your beneficiaries are? Year-end is an ideal time to check your beneficiary designations, since that is what determines who receives your IRA should you die. It's important to make sure the beneficiary is who you really intend it to be, and not say, an ex-spouse.
Also, be sure you have both a primary and a contingent beneficiary named for your IRA.
If no beneficiary is designated, the proceeds of your IRA will go to your estate, and that can have negative consequences.
For example, I'm currently working with an estate with just such a situation. Because of this, the estate has to file a probate proceeding that it otherwise would not have to file, just to handle this wayward IRA.
Also, typically the designated beneficiary of an IRA can "stretch" the distribution of the IRA over his or her own life expectancy. The benefit is lost when the beneficiary is the estate.
4. Is everything where it should be? Did you move any IRA funds during the year? If so, double check to make sure everything went where it should.
It's important to ensure that IRA funds only went to equivalent IRA accounts; for example, traditional IRA funds to traditional IRA accounts, Roth funds to Roth IRA accounts, etc.
That is, of course, unless you intended for those funds to go someplace different, realizing the consequence of doing so.
5. Are you considering a Roth conversion? If you intend to move traditional IRA money to a Roth (a Roth conversion) in 2011, you have until year-end to make this happen. A Roth conversion will be reported and taxable to you as a 2011 distribution, but there are reasons you may wish to do this.
While beyond the scope of this article, some of those reasons include that Roth IRA's are not taxable upon withdrawal and they are not subject to the RMD rules mentioned earlier.
6. Do you need to recharacterize your Roth IRA? Just the converse of #5 above, if you made a Roth conversion and now wish you hadn't, consider a recharacterization. In other words, put that money back in a traditional IRA.
Why do that?
Well, for one, the Roth IRA may now be worth less than when you originally converted, and you may not want to pay tax on a conversion amount that is higher than what the account is now worth.
Or perhaps, due to other income, you see now that your tax rate will be higher than expected. Or it could be you're short of money or just plain unwilling to pay the tax.
For any of the above, recharacterizing back to a traditional IRA may be just the trick.
7. How are your investments doing? Given market volatility, it's probably a good time to consider your investment philosophy and whether investment changes need to be made.
Is my asset allocation still appropriate given my financial goals? Do I need to rebalance my portfolio? Are my investment types appropriate for a tax-deferred vehicle? These are the type of questions to ask yourself.
7. Do you have old 401(k) accounts hanging around?
If you have old 401(k) accounts still in the custody of former employers, consider rolling them over to your IRA. Doing so could help lower your investment costs and perhaps have better investment choices.
Any good mode of transportation needs a little TLC from time to time. Your IRA needs the same, if you want a smooth ride to and through retirement, and these steps can make it happen.
