By Brian Eilers, Certified Investment Management Analyst
M.J. Smith and Associates
The Pension Protection Act of 2006 was signed into law to improve the American retirement benefits system. The law made several changes to Individual Retirement Account (IRA) regulations. All IRA investors, or those interested in investing in an IRA should be aware of the following changes.
1. IRA contribution limits will increase. In 2006 and 2007, individuals may contribute up to $4,000. In 2008, the contribution limit will be increased to $5,000. Contribution limits will be adjusted for inflation in subsequent years.
2. Individuals aged 50 and over are allowed to make additional “catch-up” contributions of $1,000 a year to IRAs, $2,500 to SIMPLE IRAs, and $5,000 to 401(k)s. While both the SIMPLE and 401(k) catch up contribution figures will be adjusted in increments of $500 based upon inflation, the provision does not allow for an increase in the “catch-up” IRA contribution limit.
3. Whereas individuals were once allowed only to roll 401(k) proceeds over into an IRA Rollover account, the Pension Protection Act now allows for a direct rollover to a Roth IRA. This event is simply treated as a Roth IRA conversion.
4. Taxpayers are now allowed to donate up to $100,000 per year to a qualified public charity, as defined by the Internal Revenue Service, directly from their traditional or Roth IRA accounts. These donations are tax free and therefore are not subject to early withdrawal penalties. Because the distribution will not be included as taxable income, there is no tax deduction for the contribution. This provision is in effect through December 31, 2007.
5. The Internal Revenue Service now allows a direct deposit of tax refund money into Individual Retirement Accounts. Refunds may be split and deposited directly into as many as three separate accounts.
6. Members of the National Guard and Reserve called to active duty through 2007 may make withdrawals from their IRA account or pension plan that will not be subject to early distribution penalties. These individuals will have two years from the date of distribution to repay the money withdrawn, regardless of annual contribution limits. Combat pay is also now treated as earned income in determining IRA eligibility.
7. Eligible individuals who make contributions to an IRA or qualified pension plan receive what is known as the “Savers Credit,” a federal match in the form of an income tax credit for the first $2,000 contributed annually. The credit totals 50 percent of the contribution made for individuals with an adjusted gross income of $15,000 or less, $30,000 for married couples. The credit phases to zero for individuals with an adjusted gross income of up to $25,000 or less, $50,000 or less for married couples.
IRA Review:
The Traditional IRA: The traditional IRA is established by an individual taxpayer. Investors may contribute compensation up to a set maximum dollar amount. Contributions to the traditional IRA may be tax-deductible, depending upon the taxpayer’s income, tax-filing status, and coverage by an employer-sponsored retirement plan. Once an individual reaches the age of 70 1/2 they must take required minimum distributions from their traditional IRA account, using a calculation determined by the Internal Revenue Service (IRS).
The Roth IRA: The Roth IRA is also established by an individual taxpayer and like the traditional IRA, annual contribution limits do apply. The primary difference between a traditional IRA and a Roth IRA is how they are taxed. Roth IRA contributions are made with after tax dollars, so taxes are paid on the front end. Earnings realized when qualified distributions are made however, are tax free. With the Roth IRA, there is no minimum distribution requirement.
SEP and SIMPLE IRAs: The Simplified Employee Pension Plan, or SEP IRA, is a retirement plan designed to accommodate self-employed individuals and small-business owners. A separate SEP IRA account is established for each participant. Employer contributions fund SEP IRA accounts. The SIMPLE IRA was designed for small business owners with 100 or fewer employees. SIMPLE plans are funded by employer contributions. Employees can also fund their SIMPLE IRAs by electing to have a portion of their salary deferred.
M. J. Smith and Associates offers fee based services and a comprehensive financial planning approach, which includes income tax planning. The firm is a registered investment advisor with the U.S. Securities and Exchange Commission and is one of the five most successful offices out of 2,200 independent branch offices of Raymond James Financial Services, Inc., a national investment firm. For more information call 303-768-0007 or visit www.mj-smith.com. Securities offered through Raymond James Financial Services Inc. Member NASD/SIPC
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