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Summary

When Can An IRA Be Set Up?

You can set up an IRA for a calendar tax year up until the date when the tax return for that year is due, not including extensions.

Where Can I Set Up An IRA?

You can set up an IRA at a bank or other financial institution or with a mutual fund or life insurance company. You can also set up an IRA through your stockbroker.

Many brokers do not charge an annual fee to maintain your IRA.

There are "self-directed" IRAs with custodians that let you choose investments other than stocks and bonds. For example, Sterling Trust Co. www.sterling-trust.com offsite link.

Opening an account is generally as simple as downloading an application form, signing the forms and returning them with a check.

What Investments Can I Make Through An IRA?

The choice of investments is basically yours.

If you are investing in stocks and bonds, a discount brokerage account is generally considered to be a logical place through which to invest.

Through a "self-directed" IRA, you can even invest in real estate - so long as it is not property for personal use. At least one financial planner suggests that you can invest in a house you use as a rental to non-family members then ultimately take it as a distribution. It is advisable to speak with a professional before making an investment that involves personal use at some point because of the tax pitfalls. If the IRS determines that you violated the self-dealing prohibitions, it could force you to pay income tax on the whole account. If you are younger than 59 , you could also be hit with an early withdrawal penalty.

You can also invest in a business, but not if the intent is to employ yourself or most family members. It's not so black and white if you invest in a small percentage of a business and the other owners decide to hire you. Check with a lawyer or accountant before moving forward on this idea.

If you invest in collectibles, the amount invested is considered to be distributed to you in the year in which it is invested. "Collectibles" includes artwork, antiques, rugs, metals, gems, stamps, coins and certain other tangible personal property.

Are Assets In An IRA Protected From Creditors?

The answer depends on the type of IRA and the state in which you live.

Traditional IRA: The bankruptcy laws of all states protect assets in a traditional IRA from bankruptcy.

Roth IRA: Some states have sufficiently broad statutes to protect assets in a Roth IRA. Which of course means that in some states assets in a Roth IRA are not protected from creditors. If you have a Roth IRA, check with an attorney or tax accountant familiar with the laws of your state.

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Is An IRA Community Property?

If you live in a community-property state (Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington and Wisconsin), an IRA is treated like any other property. If the IRA is acquired during marriage, it is considered owned equally by each spouse.

Can I Use An IRA As Collateral For A Loan?

In theory you can. However, a collateral assignment is deemed to be a taxable constructive receipt of the funds.

Can I Convert A Traditional IRA To A Roth IRA?

Only if your adjusted gross income is less than $100,000, exclusive of forced withdrawals from a traditional IRA (required after age 70 ½).

Starting 2010, the answer will also be “Yes” even if you are making more than $100,000.

You pay the income tax on the conversion. If you convert in 2010, you will be able to spread the tax over 2011 and 2012.

Keep in mind that the amount you convert must be reported as income and that it is taxed in your top bracket. You may still want to do this as an estate planning tool because inherited Roth accounts are tax-free (unlike traditional IRAs).

What Happens To The Money In An IRA If I Die?

What happens depends on whether distributions have already started, and the identity of your beneficiary. If the rules are not followed, penalties will apply.

If distributions have already started when you die:

  • Your beneficiary is not your lawful spouse: In order to avoid penalties, any money still in the account must be distributed at least as rapidly as it would have had you not died. Your beneficiary cannot spread the distribution of the money out over a longer period of time than it would have taken you to deplete the account.
  • Your lawful spouse is the beneficiary: He or she will be permitted to treat the IRA as his or her own. Your spouse can continue to make contributions to the account, roll it over into an IRA of his/her own, or continue to receive distributions from the account at least as rapidly as was permitted under the system that was already started.
  • No beneficiary designated: The distribution period for your heirs will generally be your remaining statistical life expectancy at the end of the year after your death.

If distributions have not yet started when you die:

  • No beneficiary designated: All the money must be distributed within 5 years to whoever receives this money by means of your Will or your state's intestacy laws.
  • Someone other than a legal spouse is your beneficiary: Distribution of benefits must start by December 31st of the year after the year of your death. Benefits will be payable over the life expectancy of the beneficiary or a shorter period of the beneficiary's choosing.
  • Your spouse is the designated beneficiary: If your spouse is the beneficiary, he or she will have four options:
    1. Start distributions the year after the year of your death based on his of her life expectancy.
    2. Start distributions the year during which you would have reached 70.
    3. Spread payments over his or her own life expectancy.
    4. Rollover the account balance into the spouse's own IRA.

                                                                                                Edited by: Peg Downey, CFP, NAPFA
                                                                                                                   Money Plans
                                                                                                                   Silver Spring, MD
                                                                                                                   January 2008