(PUB) Morningstar FundInvestor

July 2 014

Morningstar FundInvestor

17

estate plan, including beneficiary designations. If you’ve used an estate-planning attorney to help draft documents such as powers of attorney and living wills, ask him to also look over beneficiary designa- tions to make sure those designations sync up with the rest of your plan. Furthermore, check up on your beneficiary designations if your company retirement plan has changed providers; I’ve seen instances where the previous designations didn’t automatically transfer over to the new firm. Goof 4 | Running Afoul of the 60-Day Rule The average American will stay at a job 4 . 4 years, according to the Bureau of Labor Statistics. For individuals with company retirement plans, all those job changes mean a lot of opportunities to roll over assets from the former employer’s 401 (k), 403 (b), or 457 into the new employer’s plan or an IRA . into another tax-deferred receptacle. If you don’t get the money into the hands of the new provider within that window, and you’re under age 59 1 / 2 , the withdrawal will count as an early distribution, and you’ll owe taxes and a penalty on that money. The same problem can crop up if you’re transferring money in an IRA from one provider to the next and the former provider cuts you a check. The Avoidance Tactic: The best way to ensure you don’t trigger taxes and early-distribution penalties on an IRA or 401 (k) rollover is to have the custodians of those accounts deal directly with one another on the transaction, rather than receiving the check your- self. Most providers—especially the one that’s receiving the new assets in its coffers—will make the process fairly seamless. That way, you won’t risk forgetting to send the check to the new provider. Once you’ve pulled your money from the former employer’s plan, you have 60 days to get it rolled over Goof 5 | Triggering a Big Tax Bill on a Backdoor Conversion We’ve written extensively on the topic of backdoor conversions from Traditional IRA s to Roth IRA s. In a nutshell, the maneuver allows individuals—who otherwise earn too much to begin a Roth account—to get money into a Roth by funding a nondeductible

Traditional IRA and converting that account to a Roth shortly thereafter. Assuming the individual has no other IRA assets, the only tax due upon the conver- sion would be any investment appreciation that occurred between the time the account was opened and when the assets were converted to Roth. Individuals can get into trouble, however, if they already have sizable IRA kitties—monies that have never been taxed. When that’s the case, the conversion of the new small IRA could turn out to be a mostly taxable event. The Avoidance Tactic: The tax trap for backdoor Roth conversions for individuals with large Traditional IRA s can be circumvented if that individual also has access to a decent 401 (k) plan. If the plan allows roll- overs from IRA s, an individual can move the Tradi- tional IRA assets into the 401 (k) prior to conducting the conversion of the new nondeductible IRA to Roth. Thus, the conversion will be tax-free (or nearly tax-free). If a rollover from the IRA to a 401 (k) isn’t an option or the 401 (k) isn’t very good, individuals are better off forgoing the backdoor Roth maneuver altogether. Goof 6 | Not Rolling Over a Roth 401(k) to a Roth IRA in Retirement One of the advantages of Roth IRA s is that you don’t have to take RMD s. Confusingly, Roth 401 (k)s do require RMD s, so if you leave your money in that wrapper, you’ll have to take distributions. They’ll be tax-free, but you’ll still lose an element of control over your plan. The Avoidance Tactic: This is an easy one: To avoid RMD s from a Roth 401 (k), roll the money over into a Roth IRA , which doesn’t require RMD s, before RMD s commence. œ Contact Christine Benz at christine.benz@morningstar.com