Roth IRA – The Dividend Shield

Yes, that is correct!  I’m planning on using my Roth IRA as a dividend shield (actually more of a dividend tax shield)!

You see, eventually the Tax cuts (from Bush’s Presidency) will expire in the future, and that means that for those of us that own shares in dividend stocks the following changes might happen (but these numbers are soft):

  • 25% fed income tax rate, our taxes on dividends could increase from 15% to 31%
  • 28% fed incometax rate, taxes on dividends could increase from 28% to 36%
  • 33% fed income tax rates and up could increase from 35% to 39.5%

Back in college, I learning that dividends are taxed twice, a process called “double taxation” (once at the corporate level, and then again at the shareholder level),  after understanding this double taxation, I have hated taxes on dividends since!  With such taxation of corporate earnings at both the corporate and personal levels, we just get a sliver of the real value of the dividends, and that just out-and-out sucks!

Well, not next year!  I’m going to put on my armor and donned my shield against the taxation of dividends!

So how am I going to do that?  I’m going to buy stocks that yield a dividend directly within my Roth IRA!

You see, if I buy the dividend yielding stock in my Roth IRA first, I can still receive the dividends minus the relatively high taxes on them!  That’s the beauty, once you put the money in the Roth IRA, the dividends are tax free too!

Now, what if you want that dividend money because you use it for something like my lunch experiment?  Well, it’s okay to take that money out as long as it’s contributions and not earnings!  As long as you subtract what you take out from the amounts that you have contributed into the Roth IRA!  That mean that you can take the dividend amount out by pulling that amount from the pool of money that you contributed over the years.  So you are really pulling out what you put in initially!

 

That’s the beauty of the Roth IRA!

You can take out the contributions at any time, both tax and penalty free!  If you ever get to the point where you dividend yield is greater than the amount you contributed then you can not pull out any more, at least not without it being taxed and incurring the penalty but still, wouldn’t that be great!  I would love it if my Roth IRA was pure earnings because I pulled all the money that I contributed over the years out!  Of course if it were pure profit, I wouldn’t touch it until it is time to retire.  The earliest I can touch the profits without taxes and the penalty would be when I’m 59 1/2 years old.

In fact, to be honest, I’m thinking of putting more money in my Roth IRA, so I’ll start contributing the full $5,000 to my account, and another $5,000 to my wife’s account!

What do you think of my strategy, and are you thinking about doing the same?

Cheers,

MR

Sound 2010 Roth IRA Information

Roth IRA are fun like David Lee?

I think that everybody should have a Roth IRA! It is more fun that David Lee Roth! And by fun, I mean not paying taxes on the future earnings!

First the Basics:

The following is the “2010 Income Limits” range information. MAGI stand for “Modified Adjusted Gross Income“, and not Gross Income!
2010 Roth IRA Income Limits
(The Numbers below are MAGI number not Gross earning!)
Type of Filing Full Amt if Less than: Phase out range: Nothing if over this:
Married Filing Jointly $166,000.00 $166,000 to $176,000 $176,000
Single $105,000.00 $105,000 to $120,000 $120,000

What is the contribution (the amount you are depositing for the year) limit for 2010?

2010 Combined Traditional and Roth IRA Contribution Limits (taked straight from the goverment site: https://www.irs.gov/ )

If you are under 50 years of age at the end of 2010: The maximum contribution that you can make to a traditional or Roth IRA is the smaller of $5,000 or the amount of your taxable compensation for 2010. This limit can be split between a traditional and a Roth IRA but the combined limit is $5,000. The maximum contribution to a Roth IRA and the maximum deductible contribution to a traditional IRA may be reduced depending upon your modified adjusted gross income (modified AGI).

If you are 50 years of age or older before 2011: The maximum contribution that can be made to a traditional or Roth IRA is the smaller of $6,000 or the amount of your taxable compensation for 2010. This limit can be split between a traditional and a Roth IRA but the combined limit is $6,000. The maximum contribution to a Roth IRA and the maximum deductible contribution to a traditional IRA may be reduced depending upon your modified AGI.

Okay, now for the stuff I want to write about!

Why do I like Roth IRAs?

  • You can withdrawal your contributions at any time (but not your earnings without incurring penalties and taxes)
  • This is your discretionary income (take home pay), so this amount can be tucked into an Roth IRA, and it will grow without being taxed, since it was already taxed when it was your gross pay. Beats putting the money in a regular brokerage account and getting taxed every year on dividend, interest or capital gains tax.
  • It’s a perfect emergency fund! Since you can pull your contributions out at any time tax and penalty free. Just don’t pull out any of the earnings from the contribution amount, those would be tax at your current marginal rate, and also carry a 10% penalty hit!!!
  • You can pass this down to your children when you die and they won’t have to pay taxes on it!
  • You can use a part of the IRA amount to help buy a first time house.
  • You can create them for your kids, and make them potentially rich (as long as they have earned income) someday.

So how do I use my Roth IRA?

I use my Roth IRA for 2 purposes:

  • I use it as an Emergency fund. I don’t ever expect to need it, so this is the perfect vehicle for it in my opinion!
  • I also use a small portion of my Roth IRA to buy high beta stocks. This is good because if the stock appreciates like nuts and I have capital gains, I don’t get taken down by taxes on those huge gain. But if it’s bad (because of the economy), like it has lately, you can’t take the tax losses against your earned income.

Okay, that covers what I like about IRA’s!

Are there an additional aspects of the Roth that you can identify? Perhaps you use the Roth for something special? Or maybe I missed a benefit?

Anything you can add would be appreciated!

-MR

No 401K 2010 Conversion to a Roth IRA for Me

I was hoping in 2010 that I could roll my entire 401k balance over to a traditional IRA, and then from there do another rollover to a ROTH IRA.

The advantage of doing it in 2010, is that you can spread the contribution amount over multiple years (3 to be exact) to reduce the tax hit.

So for the first step.)  I was wondering if I could roll over my 401K balance to a tradition IRA while I am still employed at my company where my 401k resides?

Why did I want do this process in 2010 instead of now or earlier?

If I were to do the conversion in an earlier year (let’s say 2009), the tax hit would be too high, because it would bump me up to a higher Marginal Tax rate (actually a few higher)…  And I hate to pay more taxes that I have to.

Sad day for me…  Oh well, 😐

Roth IRA Emergency Fund

 

I don’t have a traditional emergency fund, so I decided once my mortgage is paid off, I’m going to use part of my previous mortgage payment savings to fund into my Roth IRA as an emergency fund.

My Roth IRA previously was used just for active trading in a few high beta stocks.  This was my “play the market” fun money.  I had a great time with it, and I did okay until the “Great Recession” hit.  Most of my Roth IRA money was and still is in solar and Chinese stocks.

Roth IRA Emergency Fund Plan:

I’m going to take 25% of the money that I’ll be saving by having my mortgage paid off in February 2010 and start to funnel it into a money market or bond fund in my Roth IRA.  After a few years, when the fund hits $15,000, I’m going to change my percentage ration to a smaller ratio.

Why am I doing this, you might ask?…

The Money Reasons 🙂

  1. Any interest or dividend received grows Tax Freeeeeee
  2. If I sell a security, and incur capital gains, they are also Tax Freeeeeee
  3. I can withdrawal my contributions to the Roth IRA without any penalty.
    1. Since the money has already been taxed, no taxes apply!
    2. No age limit applies to the contributions either!!!
  4. It’s simple to get to the money!  As long as I don’t tap into the earnings…

I will have to make sure if I withdrawal money in an emergency to only withdrawal what I contributed.   So I keep track of my contributions in a separate spreadsheet.

I’ve seen some advice about this not being the best route to take because of lost future gains.  But currently, the amount that I’ll be contributing will be above and beyond what I’m currently contributing.  By doing this, I also get to take advantage of a great legal tax loophole!  Plus I’m max out my Roth IRA contribution amount allowed by the government (currently 5,000 + inflation).

Using a Roth IRA is one of the only ways to get the interest rates that so many books and blogs reference.  After all, regular brokerage accounts get hit with taxes…

What  do you think of my plan?

MR