2006 has (so far) seen a sea change in eligibility to contribute to Roth IRAs. In fact, there are (or soon will be) four new ways for previously-ineligible people to contribute to Roth IRAs:
- Higher AGI limits in the pending pension bill
- Roth 401(k) contributions which can be rolled into Roth IRAs
- The end of the conversion AGI limit for two years as part of TIPRA
- Direct pretax 401(k) to Roth IRA rollovers in the pending pension bill
1. Higher AGI limits in the pending pension bill
The pension reform bill (HR 4) which passed the House (and is awaiting Senate passage) may be up in the air legislatively, but the policy details have been agreed to and will become law.
One of the provisions in this very comprehensive bill indexes IRA contribution eligibility AGI limits to inflation.
The Roth IRA contribution AGI phaseout ranges ($95,000-$110,000 singles/heads of households, $150,000-$160,000 married filing jointly/qualifying widows, $10,000 married filing separately) have not been altered since Roth IRAs were created in 1997.
Beginning next year, these will index to inflation. As a result, more people will be able to make Roth IRA contributions going forward.
2. Roth 401(k) contributions which can be rolled into Roth IRAs
EGTRRA created the new "Roth 401(k)" option for elective deferrals. While the contributor does not get the pre-tax advantages of a Traditional 401(k) deferral, the money grows tax free forever (think the distinction between a Traditional IRA and a Roth IRA).
Upon termination, a participant can roll Roth 401(k) deferrals directly into a Roth IRA. Since there are no income limits on 401(k) participation, this effectively allows Roth-ineligible Americans to contribute to a Roth IRA via their employer.
3. The end of the conversion AGI limit for two years as part of TIPRA
The Tax Increase Prevention and Reconciliation Act of 2005 (TIPRA) allows holders of Traditional IRAs to convert these to Roth IRAs. This is allowed under current law, but only if AGI is less than $100,000 (not counting required minimum distributions from IRAs and the conversion amount itself).
For 2009 and 2010 only, TIPRA removes this AGI limit. Additionally, it allows the tax hit to be spread over two years.
This means that persons with rollover IRAs will be able to convert them to Roth IRAs, no matter their income. Additionally, it means that high-income individuals should make non-deductible Traditional IRA contributions between now and then, and then convert those amounts to Roth status. The non-deductibility will give them basis in the conversion, so the tax hit will be minimal.
4. Direct pretax 401(k) to Roth IRA rollovers in the pending pension bill
Another aspect of the pension bill will permit direct rollovers of pretax 401(k) contributions into Roth IRAs--in essence, an auto conversion.
Under current law, pre-tax 401(k) contributions (including employer matches) must first be rolled into a Traditional IRA. Then (and only if the AGI limits are not breached) this Traditional IRA may be converted into a Roth IRA.
By allowing a direct rollover into a Roth IRA, the AGI limits on conversion are again eviscerated.
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