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· Third-Party Beneficiaries. The members of the Lord Abbett Group are third-party beneficiaries of the rights and benefits provided to us under these Terms of Use. You understand and agree that any right or benefit available to us or any member of the Lord Abbett Group hereunder will also be deemed to accrue to the benefit of, and may be exercised directly by, any member of the Lord Abbett Group to the extent applicable.

· Survival. This Section 8 will survive any termination of these Terms of Use or your use of the Intelligence System. The undersigned hereby signs these Terms of Use. By electronically signing and clicking "Accept" below, these Terms of Use will be legally binding on me. To sign these Terms of Use, confirm your full name and enter your User ID and Password (as your electronic signature) in the fields indicated below and click the “I Accept” button.

 

Retirement Perspectives

Investors who convert to Roth IRAs can change their minds and reverse the conversion through a technique known as recharacterization.

lllllLife doesn’t offer many opportunities for "do-overs." Usually, we have to live with the consequences of our decisions, even though we would have made different ones, had we only known. But by taking advantage of a technique called recharacterization, investors have a rare opportunity to undo a specific financial transaction if it doesn’t unfold according to expectations. The opportunity occurs when investors convert a traditional, SEP, or SIMPLE IRA to a Roth IRA. Here’s how it works.

Since 2010, all Americans who have a traditional IRA (SEP or SIMPLE IRA) are able to convert all or part of their IRA to a Roth IRA.1 This represents a unique opportunity, particularly for those whose adjusted gross income (AGI)2 exceeds $100,000. Prior to 2010, whether you were married or single, if your AGI exceeded $100,000, you were not eligible to convert. Once a Roth account has been established for at least five years and you are at least 59½ years old, all proceeds paid from the Roth IRA are free of income taxes. In addition, no minimum distributions at age 70½ are required, as long as you or your spouse is still alive, assuming your spouse is the first to inherit the account. If someone other than a spouse inherits your account, minimum, generally tax-free, distributions are required.3

What’s the catch? Your IRA is subject to income tax in the year in which the conversion takes place. Generally, you are taxed on the converted amount that was not previously taxed, such as deductible contributions to an IRA, or on the balance in your current IRA that was rolled over from a prior employer’s retirement plan. If you are one of the many Americans who are considering converting to a Roth IRA, you may want to do it as early in the year as possible.4

Let’s look at a hypothetical situation: Chris chose to convert a $100,000 traditional IRA to a Roth IRA on January 5, 2014. The account appreciated and, by the end of the year, is worth $130,000. The value would be the same whether he had converted or not, but had he waited to convert, there would have been, theoretically, another $30,000 on which to pay taxes.

But, as we are painfully aware, investments do not always go up. What if Chris completed the hypothetical conversion as described above, but the investment plummeted 30% instead of growing 30%? The value falls to $70,000. Chris initially has lost money “on paper,” but he still owes taxes on the original $100,000 converted. But as long as it is within the IRS prescribed time frame, Chris can choose to recharacterize the Roth conversion back to a traditional IRA, thereby erasing the conversion transaction and any tax liabilities that might have otherwise occurred. Chris has until October 15, 2015, to recharacterize. Therefore, Chris has from January 5, 2014, until October 15, 2015, to evaluate investment performance and decide whether to do nothing or to recharacterize. October 15 represents the final tax-filing deadline with extensions. Taxpayers can file an amended tax form any time between April 15 and October 15 of the same year, and will be refunded overpaid taxes, if any. Should Chris recharacterize, the conversion never happened, as far as the IRS is concerned.

Chris owes no taxes on the $100,000 conversion, and the IRA is restored to the type of account (traditional IRA) it was before any changes took place. The account balance, alas, remains the same $70,000. But that presents an opportunity of a different kind.

Chris now can reconvert (convert again) the remaining $70,000 to a Roth IRA and pay taxes on its value at the time of that conversion. According to IRS rules, Chris must wait more than 30 days from the recharacterization date or until the next calendar year, whichever is later, before he can reconvert. He also could choose to recharacterize his IRA but not reconvert.

The rules of converting differ when it comes to in-plan Roth rollovers, which were permanently expanded under the American Taxpayer Relief Act of 2012. Consequently, employees with eligible retirement plans (401(k),5 403(b),6 or governmental 457(b)7 plans) can convert all vested pretax assets to designated Roth accounts, generally at any time. As with traditional IRA conversions, in-plan conversions are subject to taxation in the year in which the conversion takes place. But unlike with traditional conversions, in-plan Roth conversions are irrevocable. Recharacterization is not permitted. So investors should carefully consider the possibilities before committing to an in-plan conversion.

We recommend that you sit down with your financial advisor and decide whether the Roth conversion is right for you. You don’t have to convert the whole amount in 2014. Some taxpayers may feel the tax liability on the full value of their assets is too much. You can convert your account in pieces, or not at all. (See "Should I Convert to a Roth IRA?" on our Retirement Calculators page in the Retirement section of lordabbett.com.) Whatever you decide, you’ll likely be better for the exercise.

[The examples in this commentary are hypothetical and for illustrative purposes only and do not represent the performance of any Lord Abbett product or specific investment. It is intended to provide general education and is not intended to serve as the primary or sole basis for your investment or tax-planning decisions. Please keep in mind that the hypothetical values do not reflect the fees and charges associated with specific investment products. If included, results would be lower.] 

 

A Roth IRA is a tax-deferred and potentially tax-free savings plan available to all working individuals and their spouses who meet the IRS income requirements. Distributions, including accumulated earnings, may be made tax-free if the account has been held at least five years and the individual is at least 59½, or if any of the IRS exceptions apply. Contributions to a Roth IRA are not tax deductible, but withdrawals during retirement are generally tax-free.
2 Adjusted gross income (AGI) is a measure of income used to determine how much of your income is taxable. Adjusted gross income (AGI) is calculated as your gross income from taxable sources minus allowable deductions, such as unreimbursed business expenses, medical expenses, alimony, and deductible retirement plan contributions.
3 Minimum distributions must be taken from traditional IRAs by April 1 following the year that a person turns 70½. A minimum distribution must be taken from the IRA in each subsequent year. Failure to take the required minimum distribution will result in a 50% penalty on the amount that was not distributed. Mandatory distributions that represent deductible contributions and all earnings are taxed as ordinary income. Mandatory distributions based on nondeductible contributions are tax-free.
4 The Tax Increase Prevention and Reconciliation Act eliminates income limits on conversions of traditional IRAs to Roth IRAs after 2009. If the conversion took place in 2010, income could be reported ratably in 2011 and 2012 on the amount converted. If the conversion takes place in 2012 or beyond, taxes on the taxable portion of the amount converted are due in the conversion year.
5 A 401(k) is a qualified plan established by employers to which eligible employees may make salary deferral (reduction) contributions on a pretax or aftertax basis. Earnings accrue on a tax-deferred basis.
6 A 403(b) is a retirement plan for certain employees of public schools and tax-exempt organizations and certain ministers. Generally, retirement income accounts can invest in either annuities or mutual funds. Also known as a tax-sheltered annuity (TSA) plan.
7 A 457(b) is a nonqualified, deferred-compensation plan established by state and local governments, tax-exempt governments, and tax-exempt employers. Eligible employees are allowed to make salary deferral contributions to the 457 plan. Earnings grow on a tax-deferred basis, and contributions are not taxed until the assets are distributed from the plan.

 

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