investments and taxes

Yup.
Taxes collections are expected to rise by 7.5% for co-op owners, and 9.6% for condo owners across the city, according to a summary report released by the Department of Finance

http://online.wsj.com/article/SB10001424052748703959104576082450659330260.html?mod=googlenews_wsj

Insult to injury, average apartment value goes down 18%, then the owner is told its worth more and has to pay more in taxes.

I like the ira conversion idea a lot. First off, it is total tax deferred. And folks will have their stocks vs. RE preference, but stocks do better over the long term.

Then there are also the benefits of being ROTH vs. traditional... no minimum distributions.

So I like using the outside money to pay the taxes... its the equivalent of a huge contribution.

And, yes, I do think taxes will go up over the long run.

i believe she missed the boat...

I assume she makes over $100k?? IRA to ROTH conversions are reserved for people making less than $100k..

in 2010 this threshold was exempted and ANYONE was able to convert IRA to ROTH, with icing being able to pay tax hit in 2011 and 2012 50/50...

thing is conversion date already passed being Dec 31, 2010..

as to what happens 20 years from now, no one knows..and if they say otherwise, they have something to sell ya

"I assume she makes over $100k?? IRA to ROTH conversions are reserved for people making less than $100k.."

Nope, incorrect.

The $100k limit exemption still holds, only the "splitting over two years" part was limited to 2010.

SWE is correct on the exemption thing.

If your friend does do the conversion, make sure she understands the free option the govt gives on the tax liability with "recharacterizations". Through Oct 15 of next year, you can undo a conversion, wait a short while, and then re-convert. The idea is that you convert $20K, pay say $8K in taxes. Account goes up to $30K, sit tight. Account goes down to $10K, you recharacterize and re-convert, paying taxes only on the $10K, so $4K. To add to the insanity, this is allowed on each account separately.

Ideally, you'd open 100 accounts each with $200, paying $80 taxes in each. They'd each "invest" in a 100-way lottery, buying 1 ticket each. 99 of then lose their $200, one of then wins the whole $20K. You recharacterize 99 of them, whose value is now zero, getting back 99 * $80. At the end, you've only paid 1 $80 tax on the whole conversion.

Now there's no practical investment that lets you do that. However, you should open several accounts, each investing undiversified and in uncorrelated (or ideally anti-correlated assets, though that can be tough).

An attorney friend of mine recently told me that the gov is seeking to nationalize 401ks and IRAs & therefore advised me to not max out these accounts.

The government is also looking to nationalize real estate and the stock market.

And health care.

Dwell, your friend was either making fun of you or needs a psych eval.

hol4: My friend definitely makes well above $150,000. However, I believe that somewherelse is correct. I think that 2010 allows you to convert and then split the tax payments for this conversion over 2 years which would be 2011 and 2012. So converting in 2011 means she MUST pay the taxes all at once without spliting it over 2 years.

However, the income limit I think is eliminated (I believe permanently.....so..she can still do the IRA to Roth conversion in 2011 or 2012 and etc. However, I think that if she plans to convert, she should do it this year 2011 or next year 2012 while the bush tax laws are still in place (since I think income tax will go up after this...but...then who knows what will happen with taxes in 2013??)

inonada: My friends and I know about the recharacterization and knew that you can re-convert up until Oct of the following year. Eg: if she converts in Jan 2011, she has until Oct 2012 to recharacterize IF she loses money on her Roth IRA. However, none of us knew that we can split up the Roth IRA converted investments into different accounts. Your idea is amazing!!!What an excellent idea of opening multiple accounts. Is this really legal?? I think that maybe I should do this as well for myself.

dwell: I actually heard about what you stated. Actually, just 2 or 3 years ago, there was some talk about government taking over pensions, 401ks, IRAs and other retirement accounts. The government suggested doing this so that they could guarantee that we would have something when we retire...the thought was that government would give maybe a guaranteed "annuity" like investment of our retirement money that would 1) government guarantee a maybe 3% return and 2) the government would keep "watch" on this money so that we could be sure that it would be there when we need it and finally 3) it would be money that we would not "outlive" This idea of government "take over" of private pensions/retirement money made many people VERY,VERY upset because their arguements against nationalizing "private" retirement plans were
1) isn't this what social security is for
2) look how well the government is managing social security...which is...suppose to be going bankrupt so how can people trust them with more money
3) some even felt that this idea of government take over of private 401k's, ira's etc was an excuse to just find money to move to cover other deficits

By the way, I was told that Argentina government did take over private pensions when their economy tanked....so...maybe this is why people are coming up with these ideas/thoughts.

By the way, dwell...where are you and your attorney friend putting your money? and why? cause my friends and I may try to diversify and put some there too.

swim,

Thanks for the info re: government taking over retirement accounts. That's pretty much what my friend said, particularly your 3rd point.

My friend is a tax atty, so he's not an investment guy & neither am I. That being said, I think it is really hard today to find safe investments. I would not touch muni bonds. I suppose blue chip stocks with good dividends are probably decent. I wouldn't lock into a CD now because rates will probly go up. I have some gold, but don't know if I'd buy more since I suspect it may be a bubble. But, even if one finds a decent investment, how much does one really keep after inflation & taxes, which keep rising? So, I think after tax profit is key.

Having said all this & agreeing that RE taxes will rise, I wouldn't totally nix the idea of income producing RE as an investment. The keys are don't over pay, crunch all numbers, do the research, have a reserve fund for repairs/loss of rent, buy in a good location & understand what being a landlord involves. If there's a positive cash flow, it could be a decent investment.

Rather than further rumermongering, why doesn't someone who suggests that the government proposed to privatize retirement accounts post a link to such a proposal? There must have been some legislation, or some congressperson who was quoted saying something like this if it's true. Otherwise, this sounds a lot like black helicopters.

While we're at it, high yielding investments aren't supposed to be safe. Hence the term "risk premium".

A year's contribution can actually made until April 15th of the following year (this is standing policy, not special for 2010).

I assume you also have until April 15th 2011 to do a Roth conversion for 2010, thus qualifying for the 2-year split if you want to do that. But not 100% sure.

nationalize or privatize?

Er, uh, good point. The fear is nationalization, I just can't type this early in the morning.

But I'm sure if said rumor had any truth at all, it would be both nationalization and privatization -- they joys of government contracting.

true all elsewhere said

you had to convert

nada points out that i "had" to open a few accts in which to make high risk uncorrelated investments--very slick--wish id thought of it--

ive heard that some feel gov't may ultimately forgive taxes on ira's as armies of babyboomers cant support themselves in retirement--seems unlikely, but there will no doubt be many boomers living in the parks and streets--those on the street wont exactly have ira's, but those on the edge who do, would benefit from tax relief--it will be interesting, all to be paid for by our young people, who cant find work even now

"ive heard that some feel gov't may ultimately forgive taxes on ira's as armies of babyboomers cant support themselves in retirement"

Doesn't make any sense...

If the folks with IRAs have little money in them, then they'll pay very little in taxes anyway, no forgiveness needed.
If the folks with IRAs have a lot of money in them, then we don't have to worry about them living on benches... certainly no forgiveness needed.

Isn't it more likely that they'll find a way to tax Roths at withdrawal? After all, there's no iron-clad permanent contractual agreement to keep them tax-free at withdrawal; tax law changes over time.

"Doesn't make any sense...

If the folks with IRAs have little money in them, then they'll pay very little in taxes anyway, no forgiveness needed.
If the folks with IRAs have a lot of money in them, then we don't have to worry about them living on benches... certainly no forgiveness needed."

True, but could be a political move. People (and voters) are suckers for this kind of stuff that seems to help them a lot more than it actually does.

On this issue of nationalization of retirement money such as IRA, 401k's and etc....just google "government takeover of 401k and you will find quite a lot of references and sites where they talk a lot on this issue. There are references to Business week Bloomberg news and other investment papers talking about the government wanting to "protect" us with offering a government annuity which many people feel sounds a lot like what social security is for.

Dwell: Can you ask your tax attorney friend about inonada's suggestion about taking "one" single IRA and converting it into maybe 10 different Roth IRA's so that recharacterization can be done on the one that loses money. I know that this recharacterization rule can only be done only once per year and ONLY if it loses money...but are there any other rules??? Also, can you find out that "if" I do my IRA conversion by April of 2011 then..can I pay my taxes over 2 years? (I thought that you "had to" have done the conversion by December 2010 to split paying taxes over 2 years....so can you help me out and find out?)

Thank you.

"Isn't it more likely that they'll find a way to tax Roths at withdrawal? After all, there's no iron-clad permanent contractual agreement to keep them tax-free at withdrawal; tax law changes over time."

Yes, correct... but I figure that the tax would not exceed the increases applied to the the regular rate... meaning at worst you break even.

So, I did a search for "government takeover of 401(k)" which provided mostly links to crazy right wing blogs, but it did provide an indirect reference to this Bloomberg article:

http://www.bloomberg.com/apps/news?pid=newsarchive&sid=aHFCE999fWR0

Which makes it clear that the proposal was to look for ways to incent people to buy annuities instead of other forms of investments. There doesn't seem to be anything in the proposal for the government to run these annuities themselves, much less forcing anyone to invest any of their money in them, much less forcing existing retirement savings into these vehicles.

I believe conversions for 2010 had to have been done in 2010, only contributions get the April 15 extension. On the legality of multiple accounts, I believe it is entirely legal and fully intended. I believe when writing re rules, the congressmen doing it considered allowing per-investment recharacterizations but ruled it out because it'd be very difficult to track. Hence, the per-account compromise. I don't remember where I read that, but fairmark.org is generally a great resource.

One other piece of fun. As a person making a lot, you cannot contribute to a Roth IRA, nor can you get a deduction for contributing to a traditional IRA. However, you can make a non-deductible contribution to a traditional IRA ($5000 per individual per year, including still for 2010 because of the April 15 extension). Then, you convert the money to Roth. However, because you have already paid taxes on this, you don't pay taxes on the conversion. The only hitch is that you have to convert your IRAs pro-rata on a tax basis. If you have $10K in pre-tax dollars and $10K in post-tax dollars, you cannot just convert the $10K post-tax bit: a $10K conversion will leave you with taxes on $5K and the tradition IRA at $5K pre-tax, $5K post-tax. Unlike the multiple account thing, I believe this way of effectively allowing all income levels to put $5K in a Roth is a loophole in that Congress did not seem to intend it from what I can gather.

All that said, I'm not a tax attorney or accountant, and I certainly ain't yours, so do your own homework.

On maximizing the value of the free option, here's things I considered:

1. Single diversified account.
2. Multiple accounts each with low correlation.
3. Multiple accounts each with low correlation, with assets selected to be my highest-risk holdings (volatility increases value of an option).
4. Same as #3, but also sell options in a non-retirement account so as to sell (and lock in a fixed proceed) from the free option.
5. A series of options or binary options to effectively get a lottery. I.e., one account bets on S&P closing below 1000, another does 1000-1100, another does 1100-1200, ....

I went with #3. I didn't do #4 as I have outside reasons not to get too "cute", and the sum was relatively small that I could effectively modulate the value of the option across my portfolio in other ways. Obviously, #5 is the best way to maximize the value of the option. However, it is extremely "cute" and transaction costs kill most of the value beyond #4.

One other thing on converting before the Bush tax cuts end. If you are in AMT land (and I assume a tax lawyer probably is), your effective marginal federal tax rate is 28%. If the Bush tax cuts expire, you may effectively get pushed oust of AMT, which means (say) 35% or 39% marginal tax rates. So, you really want to do it in years where you are under the spell of AMT.

However, I feel like I might be simply trying to teach a shark how to swim here...

If you're in the AMT phaseout, effective rates can be as high as 35%, which just further complicates the whole calculation. :-(

If the tax code gets simplified with lower income tax rates per the deficit panel report recommendation, it may be worth waiting to do the Roth conversion to take advantage of the forthcoming lower income tax rates rather than at current rates..

somewhereelse: The purpose of Roth is to pay taxes "now" so that there will be NO TAXES with withdrawal later as long as (I believe) you fulfill the below 2 conditions.

1) withdraw after having the Roth IRA money there for more than 5 years and
2) your age is greater than 59 and a half years old when you take money out

However, if I am wrong or if there are any other conditions...maybe people in this discussion can help me out and correct me.

Also, with a conversion from IRA to Roth IRA, I believe that the money is treated as normal income so you must pay federal tax, ny state tax and ny city tax....therefore...there "should be" no tax upon withdrawal. However,you are correct that laws can change so maybe.....it is likely that they'll find a way to tax Roths at withdrawal.

I have not heard about any plans to do this at this time.

Has anyone out there heard about any plans regarding taxing Roth IRA's upon withdrawal. That would be taxing the monies twice!!

jordyn: My friends tell me that the "tone" of privatizing retirement is much more "mellow" than the tone in 2008 when many reputable finance papers talked about how government wanted to "step in" to protect retirement money from disappearing overnight with bad investers. I did not read these articles so can't comment.

However, there does seem to be a lot of talk about national retirement annuities, national health insurance and of course national debt.

It's not double-taxation if the original principal is exempted, and only the gains are taxed.

Pay up.

inonada: I have learned so much from you! I called my friends up in regards to your answer....I can't wait to meet my friends for dinner to go over what we have all learned from you and everyone on this discussion.

However, can you please help me out and explain to us the ATM thing.

One of my friends has a defined benefit plan where she gets 1099 income as a independent consultant. Because of the bad economy, she can no longer get work so is thinking about terminating this defined benefits plan and then transfering the money into an IRA. (Is this allowed?? She wants to do this because annual cost of maintaining a defined benefits plan is high vs IRA's which are cheap to maintain)

She is thinking about changing careers to another field so she wants to terminate the defined benefits plan and then keeping the money tax deferred by transferring the money into an IRA.

Then, she thinks that "maybe" as a next and separate step....she is now thinking about converting this money into a Roth IRA by paying the taxes now (with outside money of course) instead of investing the money with us as a group into buying a condo (as an investment property) She is currently thinking about converting this IRA money since she believes taxes will be much much higher in the future.

In fact....We as a group...all believe taxes will be much higher in the future because of national and state budget deficits.

KISS: Where did you hear about lowering taxes? I would love to research this to find out more info...hum...lower taxes in the future despite massive deficits and budget problems...interesting.

Because if it is true, then my friend really should hold off on the Roth conversion.

swim, you have a really lot of friends

swim: I agree there's talk about "national annuities", but it's all from crazy right wing blogs. If you look at the actual statements from government officials or reporting in financial publications, it's a very different story. But some people don't let a bit of reality get in the way of their beliefs, so the interpretation becomes the facts, somehow.

As for the lower taxes, the intent is to lower marginal rates but also to remove deductions. Overall revenues (and, presumably average effective rates) would increase because the reduced deductions would outweigh the lower rates. The tax code will be simplified. You'll be worse off (but with much less paperwork) if you take a lot of deductions today, and probably better off if you take relatively few. Here's a link to the draft proposal if you want to read more:

http://documents.nytimes.com/draft-proposal-from-the-national-commission-on-fiscal-responsibility-and-reform

"inonada: I have learned so much from you! I called my friends up in regards to your answer....I can't wait to meet my friends for dinner to go over what we have all learned from you and everyone on this discussion"

I'm glad to be of help. Taxes and NY RE are my "stupid interests" in the sense that the amount of money I gain from them vs. the amount of time I spend on them is much, much poorer that being paid for work. I guess that's what's called a "hobby", right?

"However, can you please help me out and explain to us the ATM thing."

I think you are asking about the AMT thing? AMT is an alternate set of tax rules that have much fewer deductions than the normal tax rules, but top out at a 28% tax rate. The regular tax rules allow deductions but top out at 35%. The "phaseout" region that jordyn is talking about is a zone of income where a 35% marginal AMT rate is phased down to 28% I think, but I'm not sure. If you're above a certain level (look it up on the Internet, but I think something like $500K will be well beyond the zone), you're paying 28% marginal.

Suppose this year, you know you're under AMT and paying 28% marginal. But next year, you'll be at 35% because your income is lower (below AMT) or much higher (the regular tax calc with higher deductions but marginals at 35% push you beyond AMT). Or say the Bush tax cuts were set to expire (not any more), putting you at 35% or 39% marginal even without an income change because the higher rates overall put you over AMT. How you get there is not important, but different tax years may leave you at different marginal rates. You obviously want to do the conversion & pay the taxes when your marginal income is controlled by the 28%. However, you get extra juice by converting when your marginal rate is 28% this year but 35/39% next year.

Why? Because of how deductions for state taxes work. Say you're under AMT for 2011, so you'll pay 28% to federal for 2011 and (say) 12% to state/local for 2011. That 12% state/local that you paid, however, can be paid in 2012 when you file your taxes (assuming you don't need to make estimated payments, or that you're willing to deal with the penalties of not paying). This 12% you paid in 2012 then becomes deductible against your 2012 returns. If you're under AMT in 2012, it is worthless (you don't get to deduct state/local taxes from the AMT calculation). However, if you're outside of AMT and are at, say, the regular 35%/39% marginal tax rate you DO get to deduct this 12%. Thus, you get 4% or so back.

So, if stars line up, you pay 28% federal, plus 12% state/local, minus 4% deduction of state/local, meaning 36% overall.

On defined benefit pension to IRA, I have no clue as to whether it's possible or not. If your friend has little/no income, it might be the perfect time to convert. Say you have no income this year, but you convert $30K. You'll probably pay some taxes on that conversion, but nowhere near the amount you would if you had a $200K income, I believe.

One other point: you seem to mention "invest in a condo" vs. "convert to a Roth IRA" as either/or propositions. I'm not saying you should, but nothing stops you from having your IRA invest in RE: for a fee (maybe $200-300 a month), people will administer self-directed IRAs. The only limitation in terms of what you can invest in is set by law: e.g., art is excluded, but RE is OK.

So, if you have a $100K IRA and $40K cash, one choice is to have $100K traditional IRA in stocks and $40K cash in RE. The other choice is to convert and have $60K Roth IRA in stocks and $40K Roth IRA in RE. One question/concern, of course, would come from how a lender (if you have one) or a condo expecting monthly common charges & taxes would look upon an IRA owner. It's not like your personal credit can be really used on your IRA account, I don't think.

I am now well beyond my knowledge zone on this, but I'm sure if you look up "self-directed IRA real estate", Google will innundate you with websites of varying degrees of trustworthiness.

can i claim rental payments as tax free dividends

Alanhart: you are correct that "it's not double-taxation if the original principal is exempted, and only the gains are taxed." I believe that double-taxation does truly occur with estate tax where any amounts above the government set amount (which is I admit can be quite high) gets taxed again when a person dies and leaves money to their heirs.

However, do you think it is right that the government taxes withdrawals from a Roth??? After all, that was the promise/contract...which is no taxes on the growth after the conversion.

Afterall, who and I mean who would convert IRA to Roth if there was no benefit?? The benefit is the delayed gratification or promise of no taxation later on with the withdrawals.

As for friends..yep. ..I got lots of friends. I personally feel that one measures one's wealth NOT by how much money one has but by who would miss you when you are gone. I feel that how many friends and family one has is worth more than all the money in the world. But then again maybe I feel this way because I am not as wealthy as some of my friends. However, I don't pick my friends by wealth....and I always try to help my friends because they are good to me and I am lucky because my friends always want to help me (and I don't mean with money)

"I believe that double-taxation does truly occur with estate tax where any amounts above the government set amount (which is I admit can be quite high) gets taxed again when a person dies and leaves money to their heirs."

It's double taxation in the same way that when I give some money that I already earned to my real estate broker or my doctor they have to pay taxes on it. Oh, wait, that's different? Yes indeed--those people actually had to *work* for money and still get taxed for it even though I already earned it before I gave it to them. Why on Earth should you be able to give it to someone for free if they don't do anything at all for it?

The estate taxes is one of the few taxes that we have on wealth rather than work. Under most of the economic theories against taxes, we want to avoid discouraging people from working harder or smarter to earn more, so in general taxes on wealth should be much better for our economy, and they have the nice side effect that they prevent fundamental financial inequalities from persisting for (as many) generations as well.

jordyn: I told my friends what you said and they said that its true that there is no "official statement" about government "takeover" of retirement plans......however, one of my friend's response is that social security (promised retirement money which we ALL contribute to) is money that is being taken out of every paycheck TODAY with the promise of being there when we get old. However, (and I didn't know this)....apparently....social security is really a ponzie scam where money taken out of my paycheck today is used for today's old people. Apparently, tomorrow's young people is suppose to be paying for "us" when we get old.

Question from me and my friends: why is our money not being kept safe for when we retire
Question: what will "we" get when social security goes bankrupt when we retire
Question: social security going bankrupt is accelerated because of the high unemployment

These questions make people worried and paranoid because the biggest question of all is where exactly will the money or funding come from....

I guess I participate in this forum because I work, pay taxes and try to invest so that ...in the future....I want to be neither indigent nor a "burden" on society

inonada: You gave me so much info that I need time to understand everything. I'm afraid that my knowledge base is poor but I plan to research what you said. I read what you said to one of my friends on the phone and she was quite impressed. Inonada, two questions that we have for you.

1) do you (of course no one really knows but do you Inonada think taxes will be higher in the future?

2) If one makes $550,000.... does it make sense for him to convert from IRA to Roth IRA (he is planning to pay taxes from outside money and he plans to retire after 15 years..maybe 20 years if business is good)

I can't thank you enough for helping me and my friends. You are very generous with your time in answering and despite being a hobby....you know a great deal!!

1) Broadly speaking, yes, particularly for higher incomes. Let's put it this way: I think the chance of higher taxes is more than the chance of lower taxes. On the other hand, if you're going to be at a lower income level when you start drawing from your IRA, it might be offset.

2) At that level of income, here are my thoughts. First, he's likely to be high-income in the future, so probably not much to be gained from a drop in income. Beyond thy, there's something that makes the issue even simpler. The amount of non-retirement money he has probably well exceeds the amount of IRA money given the income level. You can then play the following game. Suppose the choice is between having ($100K in IRA and $40K in cash) or ($100K Roth IRA) and you invest both in the same way. If you put the money in a capital gain asset returning 8% or whatever, with capital gains being paid only once at the end from the cash account and ordinary income tax being paid on the IRA gains, you can ask yourself at what tax rate (later on) would the Roth IRA put you ahead. You'll find that it is at a tax rate in the high-20s to low 30s% (including state). Any higher, Roth would have been better. This is the worst case for Roth. If you put the money in some annually taxable investment (e.g., taxable bonds or high-churn stocks), you'll find that the Roth IRA wins out pretty easily. The main thing is that tax-free growth is a good thing, and that by converting to Roth you increase your after-tax tax-free amount. If there's a pile of money that isn't going to be touched until later, getting as much of it to be tax-free growth in nature is probably good.

jordyn: I see your point about financial inequalities. The issue of estate tax came up because Roth IRA

1) do not require mandatory distributions at age 70 and a half years old
2) can be left tax free for heirs (which I was told means that money in it goes to heirs when the owner dies and the heirs don't need to pay taxes on it)

Therefore, when alanhart mentioned above about how the gov might find a way to tax Roth IRA .....that seems to be wrong since paying the taxes "now" with the conversion from IRA to Roth is done by people because the government promised that Roth IRAs will be:

1) tax free upon withdrawal (including not just the initial principle but the growth as well)
2) any money left to heirs when the person dies will be tax free to the heirs

If the government does end up finding a way to tax Roth IRA's then maybe this will cause people to distrust the government....because the government's promise/offer of "tax free" status is what lured people into opening/converting to Roth IRA's in the first place.

inonada: So for my friend who makes over $550,000 (lucky guy...although he is a workaholic)...your assumption that he has a lot of money/assets that exceed what is in his IRA...is correct. He says that he does have quite a bit of non-retirement money in real estate.

Therefore, are you saying:

1) he should convert if in the future, (because he is rich)....if he is in a tax bracket greater than high 20 or low 30% when he retires....then it really paid off if the money is in a Roth. (because now all withdrawals are tax free)

2) if he will be in a lower tax bracket than now then maybe not having money in a Roth IRA but instead having money "grow" in an IRA (eg: from your above example $100,000) along with having money also "grow" in a second or "another" non IRA account ($40,000 from your above example) may just "even out" so..conversion from IRA to Roth may not have been necessary.

Inonada, did I get what you are saying? I hope so. Forgive me and please correct me if I am not getting it right??

dwell: can you help my friend out and ask your tax attorney friend what does he think about what I am asking Inonada.

Being that my friend makes over $550,000...and converting his IRA into a Roth IRA, it would push his income higher in the year of the conversion.

I don't know the exact amount that he is converting but let's say he is converting $100,000 in February 2011.

Then, his income will be $650,000 for 2011.

I told him that if he plans to convert...probably better to do it this year or next year since Bush tax laws were extended for 2 years.

Afterall, without another extension...taxes are due to go up eg 35% to 39.6% for federal.

Am I correct?

Also, the newspapers and financial papers all say that the bush tax laws years are the years with the lowest taxes...is this true?

And finally, I know property taxes are going up this year in NY but are NY state "income" taxes going up this year? How about NY city income taxes....are they going up either?

Does anyone in this discussion know the answer? Also, I am very appreciative if anyone has any thoughts about my friend's question in regards to converting his ira into a Roth.

Thanks in advance for answering.

I am saying that even with an investment that is most tax-efficient for a non-IRA account, conversion probably makes sense because his tax rate later is likely going to be above the break-even point of 30%-ish. For non-tax efficient investments, Roth is going to win hands down. Thus, the case for Roth is very strong, especially if he has or might later make investments where you get taxed every year. If you have buy-and-hold stocks and corporate bonds, best to put the bonds in a tax-free growth account as you get taxed on compounding gains.

Thanks inonada. By the way, if a person makes $550,000 or $650,000 then I can assume that as a New Yorker, he must be at maximum income tax level...right?

Do you or anyone know what must he pay in taxes?? Is it forty percent, fifty percent or fifty five percent?

Isn't it 35% federal and then how much for state, city and any other taxes on income?

One thing about an income of around $550K. In 2009 to meet budget problems, our state lawmakers increased the top state tax rate from 6.85% to 8.97% on higher incomes. They are in effect for a few years, I think. To pad the tax revenue, they also made these rates not just apply to the marginal dollars a your income goes higher and higher, but wanted the higher rate to apply to ALL dollars. But they phased in the transition from an 8.97% marginal rate to a 8.97% overall rate over a short $50K interval right around $500K. You won't see this written anywhere, but the idiots effectively made a $50K interval where your marginal state tax rate is 20% or so over that $50K interval before dropping back down to a marginal 8.97% for all higher income.

The upshot here is that that particular $50K interval is very expensive from a marginal tax point of view: you pay 28% federal plus 20% state plus 4% city. A such, incremental income that is discretionary (like a Roth conversion) should be carefully considered if it passes you through that particular interval.

So inonada, do you mean that state taxes go up when you pass $500,000 income?

In reference to your answer about increments of $50,000...so...are you saying that maybe my friend should see where the cut off is so that maybe he can convert some money this year and some money next year so as to "aim" for below the next $50,000 increment?

Also, did NY city taxes go up recently,... are NY city taxes increasing this year or next year?

I think city taxes are flat, but I'm not sure.

Yes, your friend should figure out how he lines up with that $50K increment. Adding income when you are above or below it is not so bad. Adding income that passes you through it, more painful.

NYC taxes are technically marginal, but the top marginal rate kicks in at a very low level (~50k I believe), so effectively is a flat tax.

The NYS income tax surcharge is supposedly temporary and scheduled to expire after this year. Gov Cuomo has said he wants it gone but Silver wants to extend it.

KISS: What exactly is flat tax? Does that mean that no deductions are allowed or does that mean that new york city tax is the same for everyone (both low and high earners?)

I meant the latter, that is to say that high earners are paying the highest marginal tax rate starting from a relatively low level (hence, practically speaking, it is a flat tax, 5% of your income).

I looked up Wikipedia (which is probably not the best resource) to see what max tax would need to be paid as income tax for an individual earning $550,000 (as salary) and then adding $100,000 (with Roth conversion) Thus, he would need to report $650,000 as income.

Wikipedia states:.....In addition, some states allow cities and/or counties to impose income taxes above and beyond the federal and state income taxes. An example is New York City, where there is both a state income tax of up to 6.85%[4], (8.97% for 2010)[5] and a city income tax, up to 3.648%[6]. The maximum rate in the city limits of New York City (as of 2007[update]) including federal, state, and city taxes is therefore 45.498%, or 1.3 times the 35.0% rate inside "federal income tax only" cities such as Seattle, Houston, Dallas, and Miami

inonada and KISS: So...does that mean that he will need to pay 45.498% as income tax as a New York city worker and resident? Because...someone else told him that he will pay 55% which seems rather high to me.

found this posted elsewhere via google search -- I am not a tax lawyer or accountant, so draw your own conclusions:

NYS rates are marginal but the 6.85% rate starts at a fairly low threshold ($20K taxable income for single, $40K for married filing jointly). NYC rates are marginal but there's very little difference between the brackets so it matters little.

NYS now has a complicated exception ("recapture") that only applies at the top end ($200 K and up for single person, $300K and up for married filing jointly). In 2009 two new brackets were created: 7.85% for single people with taxable income of $200K-500K and married filing jointly with taxable income of $300K-500K, and 8.97% for any filers with taxable income over $500K. If you're into one of these higher brackets by more than $50,000, you pay the high rate on every dollar earned. Not marginal.

For the first $50,000 in taxable income over the bracket's low point, there's a phase-in. As a result, if you're single and make between $200-250K in taxable income, you'll lose the benefits of the lower brackets on a pro-rata basis over the $50,000 range.

For example, on the first $200,000 of taxable income you'd pay $13,303. That is $2,397 less than what you'd pay if you had to pay 7.85% of all of that income. A single filer with a taxable income of $220K will pay 7.85% on the taxable income from $200K to $220K, which is normal for a marginal rate. Because $220K is 40% of the way from $200K to $250K, that taxpayer also will lose 40% of the $2,397 savings from the lower brackets due to "recapture." Thus having to pay an extra $959. At $245K (90% of the way from $200K to $250K) you'd lose 90% of the benefit of the lower brackets, and pay an extra $2,157.

Read more: http://www.city-data.com/forum/new-york-city/1066173-ny-state-city-income-taxes-marginal.html

"For example, on the first $200,000 of taxable income you'd pay $13,303. That is $2,397 less than what you'd pay if you had to pay 7.85% of all of that income. A single filer with a taxable income of $220K will pay 7.85% on the taxable income from $200K to $220K, which is normal for a marginal rate. Because $220K is 40% of the way from $200K to $250K, that taxpayer also will lose 40% of the $2,397 savings from the lower brackets due to "recapture." Thus having to pay an extra $959. At $245K (90% of the way from $200K to $250K) you'd lose 90% of the benefit of the lower brackets, and pay an extra $2,157."

This is what I was talking about, swim. Note how in this example when you go from $200K to $250K, you pay 7.85% of the $50K (which is $3,925) PLUS the recapture of $2,397 to make the aggregate amount taxed at the $250K level be a straight 7.85% of $250K, or $19,625. That works out to $6,322 for that $50K, or a 12.644% marginal tax rate on the portion from $200K to $250K. From $250K to $500K, you again pay 7.85% per marginal dollar (the total is 7.85% of your whole income over that range). So, at $500K you pay $39,250 in total tax.

From $500K to $550K, however, they want to move you from paying 7.85% on the full amount of $500K to 8.97% on the full amount of $550K, or from $39,250 to $49,335. This means $10,085 in taxes for the $50K that took you from $500K to $550K, which translates to a 20.17% marginal tax rate on this $50K in income. Beyond $550K, you are at 8.97% in aggregate and therefore 8.97% on the marginal.

For your friend, he is likely at 28% for federal because he is likely going to be under AMT, but possibly 35% if he's not. NYC is pretty simple because it tops out at 3.648% and stays there fairly quickly with rising income. For NYS, it's either going to 7.85% or 20.17% or 8.97% depending on where his exact taxable state income falls (i.e., after deductions and exemptions and whatnot). The portion below $500K is at 7.85%, the portion between $500K and $550K is at 20.17%, and the portion above $550K is at 8.97%.

Wacky, but there it is. Because you said his income is $550K, the details of where taxable income falls exactly after other income (e.g., interest or dividends or capital gains) and deductions and exemptions are going to matter.

So inonada, can we safely say...that the very, very maximum my friend must pay is:

35% for federal plus
3.648% for city plus
20.17% for state (with the rate that can also be 7.85 or 8.97%

Therefore, his income tax rate would be 38.648 plus the lowest state income tax which is 7.85 = 46.498
OR.....his income tax rate would be 38.648 plus the highest state tax rate which is 20.17 = 58.818

Is this correct for this New York resident who lives and works as an employee in New York City?

KISS: thank you so much for answering and trying to help. I see your answer but don't really understand it completely....however, I will try to spend some time to figure things out. I now know why people complain that tax calculations are very, very complicated.

inonada, KISS and anyone else out there:

Do you have any websites that might help me understand the complexities of taxes???:

maybe a website with: understanding taxes for "dummies"

cause I would like to read and learn. My friends and I all are at different wealth levels. However, we all work hard at different careers...but...we would still like to invest, save money and pay less taxes if possible. We want to be able to retire well (and early if possible.)

Swim, the maximum on a marginal dollar is that 58.818%, and it only happens on the dollars moving through the $500K to $550K range only if he's not paying AMT. However, it is highly likely that he is paying AMT, so subtract 7% (35% minus 8%). So the likely maximum is 51.818%, and it's even more likely that something else already pushed him above or below that wicked $500K to $550K range. Outside of that range, it'll be more like 41%.

On websites, I think fairmark.com is a good place if it describes the subject you are interested in.

inonada: so then maybe he should if possible

1) take bonus next year (2012) ....so that he only makes maybe $400,000 this year (2011) and then convert $100,000 IRA to Roth also this year (2011) for a total of $500,000 for taxable income(this year 2011)...so as ..to make below the "radar" amount of $500,000??

2) or maybe take salary + bonus (this year 2011) to add up to $450,000 (for 2011) and convert this year (2011)$49,000 IRA to Roth to equal $449,000 and so as to again keep him below radar amount this year. Then do the same thing next year (2012) so that his total $100,000 IRA gets converted to Roth but yet he minimized his taxes for 2 years (2011 and 2012)??

Am I getting this right or do I have it all wrong??....by the way, thanks inonada.

Great thread!

some thoughts to consider, some based on running examples through turbo tax (maybe mix of income impacts. clearly i'm not an expert:
- with high ny taxes in the examples i ran can stay in 28% bracket with income up to $760,000.
- Cuomo wants ny surcharge to sunset after 2011.(may or may not happen)
- small chance tax reform could lower rates and eliminate deductions.
- if you move from nys or nyc to a lower or non tax jurisdiction you save taxes
- not certain but roth ira may get more favorable treatment under new health care tax on passive income over 250,000
- i'm told roth ira stays in your estate and is subject to estate tax. but not taxable to beneficiary

the above led me to wait until 2012 to make decision on converting. and if convert apply multiple account strategy.

Yes, you got the idea, swim. Be careful not to confuse income with taxable income, and read the details (or run turbo tax). Because the exact values may be hard to predict, one possibility is to do conversions in multiple accounts, and then recharacterize (I.e., unconvert) as needed to put you below the magic number.

Another consideration is that you ideally want to convert in a year you are paying AMT (28%) -- say 2012, but pay the taxes the next calendar year --- say 2013 -- when you are no longer under AMT. That way, you deduct the state taxes you paid in 2013 at 35% or 39.6% from your 2013 federal taxes. If you are under AMT in 2013, these deductions won't matter.

i've reached this conclusion but could be wrong-not an expert. if normal income is about 550m in nys, elimination of bush tax cuts in 2013 may still result in 28% bracket as higher marginal rates serve to reduce amt to zero before new rates kick in.

opheus12: Yep, great thread thanks to everyone contributing to this discussion including KISS, jordyn, somewhereelse, dwell, and most of all inonada. I myself have learned a lot. I wish inonada was my accountant. However, opheus12...what do you mean when you said "Cuomo wants ny surcharge to sunset after 2011"??

inonada: Do you know if the medicare surcharge for health care reform that is suppose to be another 3.8% tax has passed?? If so, isn't this another tax that will be added to income tax? Will this tax affect Roth IRA conversions??

Wbottom: Since I too am thinking about Roth IRA conversion....

where did you hear or read about "some feel gov't may ultimately forgive taxes on ira's as armies of babyboomers cant support themselves in retirement" Because then, why would I or anyone convert...I mean...no point in paying taxes now...if I won't have to pay taxes later or ever on this money.

'what do you mean when you said "Cuomo wants ny surcharge to sunset after 2011"??'

if it sunsets, the two new nys rates above 6.85% would be eliminated in 2012(7.85% and 8.97%).

opheus12: So then...maybe my friend should wait until 2012 to convert his IRA to Roth because:

1) Bush tax law extension for federal income tax will still be in place for 2012 and
2) nys rates ???"maybe" or possibly eliminated in 2012...right?? (thus he might pay less New York state income tax.) Am I right??

However, he should not wait until 2013 to convert IRA to Roth because by 2013, the bush tax laws expire and if they are not extended again...he may pay more Federal tax...right??

Also, Medicare surcharge tax is suppose to happen in 2013...right??

sorry to keep saying i'm not an expert but i'm not. that being said, you've summarized my position correctly. i think we may learn more in 2012 with respect to ny taxes,any move to simplify tax code by reducing rates and eliminating deductions,any changes in health care legislation which may impact medicare surcharge, and whether bush tax cuts will be extended further. at this point i plan to convert at beginning of 2012 with multiple account strategy and re characterize by october 2013 if it benefits me.

On the Medicare surcharge, I think it comes in 2013 and am guessing Roth conversions will count as taxable, but I'm not sure. You can read info at:

http://fairmark.com/2010/06/24/roth-conversions-and-medicare-tax

Another advantage of a 2012 conversion, besides what you mentioned, is that if he pays the NYS/NYC taxes in 2013 and his federal is out of AMT in 2013, the deduction will be useful for eliminating 40% of the 10% he paid to city/state.

Of course, our lawmakers don't like planning that far in advance: if you had asked most people a year ago whether the Bush tax cuts would have been extended for the wealthy, they would have said "no". At least the federal lawmakers have had the courtesy to determine the tax laws for 2011 before 2010 began. Their counterparts in Albany were much worse. The 2009 surcharge was passed in April of 2009, well after the year had begun. To add insult to injury, they screwed with the underpayment penalty rules. Normally, if you pay at least 110% of the prior years' taxes in the new year, you're OK when it comes to underpayment. They changed the rules to say that you had to pay at least 110% of your 2008 taxes, but re-calculated with the 2009 rules. Talk about making it difficult...

On "planning to convert in the future", you should be aware that it may create some difficulties.

Suppose you have $100K in IRA and $40K in cash. If you convert now, you're done. However, suppose you want to convert in 2012 because of the tax issue. If the $100K becomes $150K, you'll need $60K to convert. So perhaps you hedge this by putting the $40K cash in the same investment so that it'll track and become $60K at the time of conversion. At this point, however, you'll have a $20K gain on that cash, so you'll have to pay $5K in taxes, so you'll only have $55K for the conversion. The good news here is that if things go down, it balances out. Your $100K IRA becomes a $50K IRA, and your $40K from-cash investment becomes $20K. At this point, you'll have the money to convert, but you'll also have a $20K loss which translates to a $5K credit towards taxes in future years. So, if you expect your investment to be flat on average, tax-on-cash-investment portion cancels out on average. However, if you expect your investment to go up on average, you'll lose a bit here to taxes on average.

inonada: Boy, you're good. That's exactly what happened to my best friend. She was gonna convert in the summer of 2010 because she thought Bush Tax laws were NOT going to be extended at all for "anyone." She (in fact) had outside money and was just going to split paying taxes over 2 years...but then:

1) there was talk about an extension of Bush tax laws at least for those making less than $200,000 (and she makes below that $200,000 amount)
2) Also, she knew about recharacterization and figured that she would convert in Jan of 2011 and have until Oct of 2012 to recharacterize if necessary...in case her stocks/mutual funds tanked.
3)she figured that real estate was at an all time low.....so.....she was going to buy property with me and our friends therefore... wanted to have "cash on hand" to invest with us (by the way...that's why I joined streeteasy to "try" to find "cheap" property)

Well, the problem is that:
- we didn't buy the property yet
- her IRA went up quite a bit..
- conversion for her now will be costing her a lot more money unless stock market falls (but will that make her happy??? I think "not"

opheus12: I personally think that I will convert my IRA to Roth this year because I believe that you can recharacterize once but "only" once per calendar year...(or maybe it is per tax year???inonada...do you know is it calendar or tax year???)

Splitting the Roth accounts sounds brilliant to me. That way, the accounts that do poorly as per above can be recharacterized...and no taxes paid...and then converted again for a second "go around" or a second chance of making money the following year.

It seems like a free pass to me. After all the bush tax laws are extended only for 2 more years (2011 and 2012)....so I want to take advantage of this.

Of course who has a crytal ball for the future....taxes can be more, less, or the same in the future.

Maybe Bush tax laws will be extended forever....since income limit on IRA to Roth conversions I believe (as per above) have been eliminated. Therefore, you can make a million dollars a year income and still do an IRA to Roth IRA conversion this year, next year, etc (however, how much taxes you must pay is still questionable since conversion amounts are added on to your income taxes as earned income (I think...inonada or anyone please correct me if I am wrong...)

So in my opinion, if I am thinking about converting, I should do it this year or next year (in case income taxes go up in 2013 when bush tax laws expire)....unless of course, I lose my job and will be in a lower tax bracket in 2013.

When you recharacterize a conversion done in year X, you must wait the longer of 30 days or until Jan 1 of year X+1 to convert again. If you converted in 2010 and recharacterize today, you must wait 30 days. If you converted in 2011 and recharacterize today, you must wait until Jan 1 2012.

"So in my opinion, if I am thinking about converting, I should do it this year or next year (in case income taxes go up in 2013 when bush tax laws expire)....unless of course, I lose my job and will be in a lower tax bracket in 2013."

Now you're getting it. Go through enough of this what-if crap, and you'll become a fan of a simplified tax code that gives you no options.

inonada: can you help with the below scenarios? What if I....

1) convert IRA to Roth in Jan 2011 and then recharacterize (Roth back to IRA) in Dec 2011...when can I re-convert this "same" IRA to Roth again for the second time?

2) convert IRA to Roth in Jan 2011 and then recharacterize (Roth back to IRA) in Jan 2012...when can I re-convert this "same" IRA to Roth again for the second time?

3) convert IRA to Roth in Jan 2011 and then recharacterize (Roth back to IRA) in April 2012..when can I re-convert this "same" IRA to Roth again for the second time?

4) convert IRA to Roth in Jan 2011 and then recharactirize (Roth back to IRA) in October 2012...when can I re-convert this "same" IRA to Roth again for the second time?

Of course I would only recharacterize if I lost money (In fact, I believe you can only re-characterize if the account decreased in value...I think that this is a requirement anyway)

By the way....you know inonada, I am going to have to start paying you for consultant fee soon.

You should verify it all by reading the extensive articles in fairmark.com, but I think:

1) Jan 2012
2) Feb 2012
3) May 2012
4) Nov 2012

The point is that because it's a 2011 conversion, it doesn't take away from your ability to convert once in 2012: you simply have to wait 30 days. If you recharacterize in 2011, however, you have to wait until 2012 to reconvert (beyond just the 30 days).

Also, I don't think there are restrictions on recharacterizations (i.e., just for losses), but you should read fairmark.com to verify.