Traditional vs. Roth:Choose Your Own IRAdventure

Eric Bronnenkant, CPA, CFP®Eric is Betterment's Head of Tax. His experience includes working for Ernst & Young and Fidelity Investments. Eric holds M.S. degrees in Accounting and Taxation from Seton Hall University as well as an MBA in Quantitative Finance from NYU. He also serves as an adjunct taxation professor at Seton Hall University.

Nick Holeman, CFP®, EANick is Betterment’s Senior Financial Planner. He earned his M.S. degree in Financial & Tax Planning and manages the team of financial advisors at Betterment. Nick has advised 1,000’s of clients and speaks regularly on financial media outlets such as CNBC, Yahoo Finance & the New York Times.

Goals● Which IRA (Traditional or Roth) can be right for a client?● Is a Roth Conversion right for a client?● How has Tax Reform impacted IRAs?

● And of course, strategies to help take advantage of all of these

Agenda

• Traditional IRA benefits

• Roth IRA benefits

• Back door Roth IRA strategy

• Roth conversion decision factors

• Advanced planning strategies

Traditional IRA (circa 1974)

What are the requirements to contribute to a Traditional IRA?An individual can contribute up to $5,500/$6,000 for 2018/2019 ($6,500/$7,000 if at least 50) to a Traditional IRA if they have:

● Individual or their spouse has earned income, including wages, self-employment income, or non-taxable combat pay

○ Earned income does not include interest, dividends, capital gains, Social Security, and retirement distributions

● Be under age 70.5 at the end of the tax year

What are the requirements to deduct a Traditional IRA contribution?Single

● If your client is not an active participant in an employer sponsored plan○ No income limit on a deduction

● If your client is an active participant in an employer sponsored plan○ The deduction is phased out between $63,000 and $73,000 for 2018 and $64,000 - $74,000

for 2019

Married filing jointly● If neither your client nor their spouse is an active participant in an employer sponsored plan

○ No income limit on a deduction● If your client is an active participant in an employer sponsored plan

○ The deduction is phased out between $101,000 and $121,000 for 2018 and $103,000 - $123,000 for 2019

● If your client is not active participant in an employer sponsored plan (but their spouse is) ○ The deduction is phased out between $189,000 and $199,000 for 2018 and $193,000 -

$203,000 for 2019

What is an active participant in an employer sponsored plan?Defined contribution

● Your client is an active participant in a defined contribution plan for a tax year if amounts are contributed (employer or employee) or allocated to their account for the plan year

○ Includes 401(k), 403(b), SEP, Simple IRA (excludes 457)

Defined benefit● Your client is an active participant in a defined benefit plan if they are eligible to participate

in the plan whether or not they are vested

Some situations in which your client is not an active participant● Social Security coverage or benefits● Distributions from previous employer plan

How are Traditional IRA distributions taxed?

Traditional IRA distributions are generally taxed as ordinary income● Exception - The portion of a distribution related to after-tax contributions is tax-free

○ Distributions are pro-rata based on the ratio of all after-tax contributions in relation to all Traditional, SEP, Simple IRA balances

○ If 5% of these accounts are after-tax, 5% of any distribution will be tax-free

If your client is under age 59.5, there is generally a 10% early withdrawal penalty on the taxable portion of the distribution

● Exceptions to the 10% penalty apply ○ Distributions as an annuity (Substantially Equal Periodic Payments)○ Distributions due to total and permanent disability○ Distributions due to death○ And many more!

What are some compelling reasons to make a Traditional IRA contribution?

● You expect your client to be in a lower tax bracket in retirement

● Your client is entitled to an upfront tax deduction

● Your client’s income is too high to make a Roth IRA contribution

● The RMD (required minimum distribution) will have little to no impact on your client

● Your client does not expect to leave a substantial inheritance to heirs

Roth IRA (circa 1997)

What are the requirements to contribute to a Roth IRA?An individual can contribute up to $5,500/$6,000 for 2018/2019 ($6,500/$7,000 if at least 50) a Roth IRA if they have:

● Earned income which includes wages, self-employment income, or non-taxable combat pay or spouse has earned income and filing a joint return

○ Earned income does not include interest, dividends, capital gains, Social Security, and retirement distributions

● Meet the income limits○ Single phaseout range from $120,000 - $135,000 for 2018 and $122,000 and

$137,000 for 2019 and Married Filing Jointly from $189,000 - $199,000 for 2018 and $193,000 - $203,000 for 2019

● Roth IRA contributions are always after-tax (non-deductible)● No age limit

How are Roth IRA distributions taxed?

Qualified distributions are tax- and 10% penalty-free● Any Roth IRA has been open for at least 5 years, plus

○ Attaining age 59.5○ As a distribution to a beneficiary○ Upon being totally and permanently disabled○ First time homebuyer up to $10,000

If a distribution is not qualified, it is subject to pro-taxpayer ordering rules● Regular contributions (tax free and 10% penalty free)● Conversions contributions (tax free but may be subject to 10% penalty)● Earnings (subject to ordinary income tax but may be subject to a 10% penalty)

What are some compelling reasons to make a Roth IRA contribution?

● Your client expects to be in a higher tax bracket in retirement● Your client is willing to forgo an upfront tax deduction

Your client’s income is too high to deduct a Traditional IRA contribution● Your client would like to avoid RMD (requirement minimum distribution) requirements over

age 70.5● Your client would like to leave a tax-free account to a spouse or non-spouse beneficiary● Qualified withdrawals don’t count towards AGI, which could reduce Medicare premiums

and/or tax on SS● Your client wants to hedge against future tax rate increases

Should you consider a Roth conversion?

What are some compelling reasons to do a Roth IRA conversion?A conversion is performed when you move your client’s assets from a Traditional to a Roth IRA

● Your client’s account is all/mostly after-tax contributions● You expect your client to be in a higher tax bracket in retirement● Your client can afford to pay the taxes on the conversion using non-retirement funds● Your client would like to avoid/reduce RMD (requirement minimum distribution)

requirements over age 70.5● Your client would like to leave a tax-free account to a spouse or non-spouse beneficiary

Your client accepts the consequences of the conversion as final and understands that recharacterizing (undoing) a conversion is no longer an option due to 2017 tax reform

Lumpy tax brackets

Semi - retire

Claim SS

Fully retire

Start RMDs

This chart is designed to illustrate how one's tax bracket may change over time. It is entirely hypothetical in nature, and it is neither meant to reflect any specific person's path, nor meant to reflect any type of portfolio performance.

Advanced Planning Tips

Advanced Planning Tips

Isolating basis in a Traditional IRA/Reverse rollover● Your client may have been inhibited from doing a Back Door Roth IRA strategy due to

pro-rata rules○ Consider rolling all the pre-tax portion of all your client’s Traditional/SEP/Simple

IRAs to a 401(k)/403(b)/457 government and they will be able to convert the remaining balance tax-free

Starting the 5 year clock for your client’s Roth IRA● Your client may have a Roth 401(k)/403(b)/457 and plan on rolling that into a Roth IRA

(no current Roth IRA) in future because they like their Roth IRA investments and want to avoid RMDs

○ Considering doing a Roth conversion of $100 today to get the Roth IRA clock ticking and avoid being subject to a new 5 year holding period upon doing the rollover in the future

How can Betterment for Advisors help?

Tax-Smart Technology● How to help your clients minimize taxes

● 2-minute Roth conversions for clients

● How a Roth conversion impacts a client’s Tax-Coordinated Portfolio

● IRA rollovers on Betterment for Advisors

Questions?

DisclosuresBetterment is not a tax advisor, nor should any information herein be considered tax advice. Please consult a qualified tax professional.

This presentation is for investment professionals only. It is for educational purposes and not intended to be relied upon as investment or tax advice. All images are for illustrative purposes. For more information, visit Betterment.com.

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Date

Author

January 8th, 2019

Eric Bronnenkant, CPA, CFP®, Head of Taxeric.bronnenkant@betterment.com

Nicholas Holeman, CFP®, EA, Senior Financial Plannernicholas.holeman@betterment.com