[AcMilan714]

Im 31 and i have Mutual Funds @ Vanguard and i wanted to get a IRA going.

I do own my own business and i would'nt need to touch this money until 60+ and as far as i know i can write off 4k a year on the Traditional one.

Is there any other Pros and Cons you guys can give me on these IRA's?

P.S Im still veryyyyyyyyy new to the investing game, so if any other ideas for a young business owner to do with his extra money your ideas would help...

Thank You..

[scollins]

In a nutshell: Roth IRA grows tax free, because the contributions are "after-tax" dollars, so you never pay another cent in tax on them, not even the increase. Traditional IRAs contributions can be partially or fully deducted from your taxes, but the limits are pretty low on how much money you can make and still get the deductions. However, when you start taking distributions from a Traditional IRA, it is taxed at the prevailing income tax rate at the time. Who knows what that will be in 25 years!

My financial advisors (UBS) say to max the hell out of the ROTH IRA first, then work on the rest. In 2010 there will be a mechanism to convert traditional IRAs to ROTH IRAs without penalty (although you will have to pay income tax.)

The nice thing is, the previous $100,000 income cutoff will be removed, meaning if you make more than $100,000 per year, you can still do the conversion. Also, they are allowing you to pay half of the conversion income tax in 2011 and the remainder in 2012. We are working out the numbers to see how much we can afford to convert without hurting the growth of the investments over our remaining "working life."

But the idea of taking a huge chunk of our Traditional IRAs and converting them to a tax-free investment vehicle is VERY appealing. I'd love to retire and never owe another god damn cent in income taxes!

[fobunited]

Your financial advisors are wrong and gave you bad advice. No offense, but hopefully it'll be something that will be beneficial to you. We live and learn. The people who would actually benefit from a Roth IRA are actually pretty few.

It is true that Roth IRA's grow tax-free because you pay your taxes before hand. On paper, this sounds like a good bet. Pay off the taxes now, and you won't see them later right?

This may simplify things, but in almost all cases, you end up with less money over the same amount of time. Why? Law of compound interest.

For the OP, a period of 30+ years is a pretty lengthy time and therefore more than ample time for the law of compound interest to kick in. Simply explained, the law of compound interest means the more you invest, obviously the more you have. Since a traditional IRA's taxes are DEFERRED, you will have more to invest in your IRA than a Roth, and over a period of 30 years, that extra amount plus the interest that it's generating, will put you way ahead of what the Roth will grow to.

Furthermore, you have to consider what tax bracket you are in. If you are in your 30's and own your own business, you're probably in a pretty high tax bracket. Are you married? Have kids? If not, it's pretty safe to assume you're paying quite a bit in taxes. 35% bracket?

Now imagine where you'll be when you're 60, or when you want to start taking distributions. Are you going to be retired? Married? Have kids? If so, you'll be in a lower tax bracket. Now will you want to pay taxes on your retirement NOW (Roth Ira) at a 35% tax bracket, or in the future in a lower tax bracket?

So the benefits of a Traditional Ira vs. a Roth Ira are twofold:

1. Law of compound interest

2. Tax bracket

The few cases where Roth IRA's are more beneficial to the traditional depend on age and expected tax bracket. For an older individual who will probably stay in the same tax bracket, the Roth IRA will be more beneficial because compound interest won't take as much of an effect.

Hope this helps, please let me know if you have any questions.

[Poderes1]

Originally Posted by AcMilan714

Im 31 and i have Mutual Funds @ Vanguard and i wanted to get a IRA going.

I do own my own business and i would'nt need to touch this money until 60+ and as far as i know i can write off 4k a year on the Traditional one.

Is there any other Pros and Cons you guys can give me on these IRA's?

P.S Im still veryyyyyyyyy new to the investing game, so if any other ideas for a young business owner to do with his extra money your ideas would help...

Thank You..

The best thing you can do my friend is open up a SEP IRA since you own your own business. You can contribute up to 42K or 25% of your income whichever is less. The contributions are tax deductible as well. Aside from the SEP IRA you can open up a Roth IRA whereas contributions are done with after-tax dollars and your withdrawals are tax free. So I just gave you a way where you can save on your taxes (the most that is) with the SEP IRA and also have tax-free withdrawals with the Roth.

If you want to save some more money, aside from the SEP and Roth IRA's that you should open, you can open up a non-qualified cash account with an investment brokerage whereas the lump sum money you put in, you don't pay taxes on because its considered the cost basis, however you do pay taxes on only capital gains and dividends.

[scollins]

Originally Posted by fobunited

It is true that Roth IRA's grow tax-free because you pay your taxes before hand. On paper, this sounds like a good bet. Pay off the taxes now, and you won't see them later right?

Like I said, the advice was to max out the Roth IRA before other items. The annual limit to the Roth IRA is a paltry $4,000 per year, and for 2007, I may not be able to contribute at all. Also, you don't know my entire financial situation, so saying it bad advice is incorrect on your part. I've got a 401(k) through work, and I make more than the maximum allowed AGI for Traditional IRA contributions to be "pre-tax" dollars. The limit for both Roth and Traditional IRAs is $4,000. Since I can't contribute "pre-tax" dollars to my Traditional IRA, why put it in there when I can put it in a Roth IRA and not paying taxes on that money again?

This may simplify things, but in almost all cases, you end up with less money over the same amount of time. Why? Law of compound interest.

I understand compound interest. Please tell me how $4,000 in a Traditional IRA today will grow faster than $4,000 in a Roth IRA today? They will grow at the same rate (assuming the same investments are used.) The annual contribution limit for Traditional IRAs is also $4,000. Again, for someone who can make pre-tax contributions to a Traditional IRA, that may be the better choice.

For the OP, a period of 30+ years is a pretty lengthy time and therefore more than ample time for the law of compound interest to kick in. Simply explained, the law of compound interest means the more you invest, obviously the more you have. Since a traditional IRA's taxes are DEFERRED, you will have more to invest in your IRA than a Roth, and over a period of 30 years, that extra amount plus the interest that it's generating, will put you way ahead of what the Roth will grow to.

I don't see how the compounding will work any differently between the two IRAs. $4,000 is $4,000, so the compounding will be the same. The benefit of the Traditional IRA is that some can deduct the contribution from their taxes, in effect using "pre-tax" dollars. If you can't deduct the contribution, then you are using after-tax dollars in both cases, meaning the Roth IRA has the lead since it grows tax free.

So the benefits of a Traditional Ira vs. a Roth Ira are twofold:

1. Law of compound interest

2. Tax bracket

Your first benefit doesn't hold water. Since the contribution limits are the same, the compounding of interest will be the same. The second point is valid, depending on your situation.

The few cases where Roth IRA's are more beneficial to the traditional depend on age and expected tax bracket. For an older individual who will probably stay in the same tax bracket, the Roth IRA will be more beneficial because compound interest won't take as much of an effect.

Hope this helps, please let me know if you have any questions.

There are far more factors that come into play than just age and expected tax bracket, such as being covered by an employer retirement plan and your annual AGI.

Here is the best advice the OP will get: Go see a Financial Advisor! Go through your finances with them, your goals and expectations, and see what they come up with. They are the experts, not a bunch of keyboard commandos here on E90post.

[fobunited]

Your whole retort on my post is based on your assumption that you can only contribute $4k/year under normal IRA restrictions. You can, however, roll over your 401k into a traditional IRA once per year without the 10% penalty and therefore contribute more than 4k a year.

[txusa03]

well, I am certainly not an expert in anything. If you have 8K in a roth or traditional IRA and you have coupound interest on both and both are yielding the same rate, then at the end of the year, you earn the same interest on both. The interest that you earn at the end of the year (let say $200) on both IRA will be filled on your tax return. So where is the coupound advantages you are referring too? I don't see it and I agreed with scollins on this example.

Please educate us what you mean fobunited because I am always interested in learning more about making $$$. But without example or concrete details, I don't see how a traditional can out perform a roth in term of coupound interest alone.

[scollins]

Originally Posted by fobunited

Your whole retort on my post is based on your assumption that you can only contribute $4k/year under normal IRA restrictions. You can, however, roll over your 401k into a traditional IRA once per year without the 10% penalty and therefore contribute more than 4k a year.

I've never heard this before, and I can't find any corroborating evidence to suggest that this is allowed under current IRS regulations. You can rollover a 401(k) when you leave an employer, but I don't believe you can rollover a current, active 401(k) (meaning you still work for the company) to an IRA plan. If you could provide a link with details for that process, I'd appreciate it.

And besides, that is just shifting money from one tax-deferred mechanism to another, and doesn't really create any benefit by doing it.

[fobunited]

This is from my company's intranet site so I can't link it:


Rollovers, Direct Transfers, and Rollover IRA Accounts

The term "Rollover" is used to describe one method of moving retirement assets from one plan to another and is often confused with a "Transfer". Additionally, the term "Rollover" is used to describe a specific type of Traditional IRA.

The following definitions provide further clarification:


Indirect Rollovers

The IRA owner takes a distribution from an IRA or a Qualified Employer-Sponsored Retirement Plan, with the check made payable to the individual, and deposits the exact amount of the distribution into another IRA, within 60 days. This is a reportable event, but if completed properly, will not be a taxable event. Distributions from the same IRA can only be rolled over once every twelve months.

Direct Rollovers

A distribution from a Qualified Employer-Sponsored Retirement Plan (such as a 401(k) plan) which is made payable and sent directly to another eligible retirement plan custodian, such as a Traditional IRA custodian. This is a reportable event, but if completed properly, will not be a taxable event. There is no limit as to the number of direct rollovers that may be completed.

Direct Transfers

This is a non-reportable, non-taxable movement of IRA assets from one custodian to another. This is not considered a distribution, as the entire transfer occurs solely between the resigning and accepting custodians. There is no limit as to the number of direct transfers that may be completed.


Rollover IRA Accounts

This is a type of Traditional IRA, which is used as a "conduit" between Qualified Employer-Sponsored Retirement Plans. Assets which were rolled over from a Qualified Employer-Sponsored Retirement Plan (such as a 401(k) plan) into a Rollover IRA Account must be kept separate from other types of IRA monies (including Traditional, SEP and SIMPLE contributions) if the IRA owner intends to roll the assets back into another Qualified Employer-Sponsored Retirement Plan in the future.


Tax laws are complex and subject to change. This information is based upon current federal tax rules in effect at the time this was written. Morgan Stanley and its Financial Advisors do not provide tax or legal advice. Clients should always check with their tax or legal advisor before engaging in any transaction involving IRAs or other tax-advantaged investments.

~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

"shifting" from on tax-deferred to another doesn't create a benefit? Yes it does, because it allows you to exceed the $4000, which makes the traditional ira a better choice than the roth since law of compound interest comes into play.

[fobunited]

Furthermore, since the OP is a business owner, he controls the company. The company can have yearly 401k distributions, which would allow him and all employees under him to rollover the entire 401k value into a traditional IRA without the 10% penalty or taxes if done in 60 days.

This, as I have stated, makes the traditional ira more valuable than roth. Why? Because of compound interest! You'd have more to invest in a traditional over the roth.

Furthermore, the taxes that he pays on his traditional ira are deductable, while the taxes in a roth are not.

Lastly, as I stated in my first response, his tax bracket can safely be assumed to be LOWER when he actually withdraws, as opposed to higher now.

[AcMilan714]

Thank you all soo much for your responses..