Every tax newsletter, journal, and other publication (I read a bunch of them in my never-ending struggle to stay current on the tax law) has had one or more articles on the virtues of Roth IRAs in the past three months.
Here’s a quote from one of the more widely read newsletters: “Making a Roth IRA pay in (for your child) is a great idea this year. You can contribute $3,000 a year, if the child earns that much.” The article points out that a $3,000 contribution to a Roth IRA for a 15-year-old will mushroom to $88,000 per year, assuming 7 percent growth per year at age 65, and to $124,000, if the Roth owner lets it grow until age 70. Good stuff.
But a Roth IRA has some nasty rules that apply to all who want to play the Roth game:
1. No earnings, no contribution (contributions are limited to earned income or $3,000, whichever is less).
2. Earn too much, and you are locked out of the game (a problem for many adults), and;
3. Subject to a few exceptions, withdrawals taken prior to age 59 1/2 are hit with a 10 percent penalty.
The good news: Although contributions to a Roth IRA are not deductible, withdrawals are tax-free (after age 59 1/2).
Actually, there is another tax-advantaged way to prefund your child’s education that beats the pants off of a Roth IRA. It’s called a Tax-Free Education/Retirement Plan (tax-free E/R plan). Here’s why a tax-free E/R plan is better than a Roth IRA:
1. Earnings don’t count, whether you have zero earnings.
2. Or earn millions.
3. Withdrawals are always tax-free no matter when taken and can be used for any purpose (typically, for a college education, to buy a home and for retirement).
You can start a tax-free E/R plan at any age; for a newborn, a 15-year old or a 40-year-old. And annual contributions (actually premiums for a specially designed life insurance policy) to the Plan have no limit. Following are projected numbers for ER plans for different ages:
- Newborn, 15-year-old, 40-year-old;
- Annual premium $10,000, $15,000, $45,000;
- Paid to age 6, 22, 60;
- Number of years 6, 7, 20;
- Total paid in $60,000, $105,000, $900,000;
- Tax-free withdrawals: College (4 years) $68,000;
- Home down payments (age 32) $60,000, $60,000;
- Retirement ($150,000);
- Age 60 to 95 $5,400,000 $5,400,000, $5,400,000;
- Total lifetime benefits $5,528,000, $5,460,000, $5,400,000;
- Death benefit (age 95) $4,200,000, &2,700,000, $300,000;
- Total benefit (age 95) $9,728,000, $8,160,000, $5,700,000.
The above numbers do not pretend to give you all the details. But two important points are immediately apparent:
1. The power of funds compounding in a tax-free environment (life insurance), and;
2. Youth will be served (put those education and retirement dollars always early).
Want to learn more about how a tax-free E/R plan can enrich you, your children, and your grandchildren — tax-free? Send for a free illustration for yourself or a family member. Fax your name, phone number (home, business, cell), and name, age and birthday of family members to be illustrated to Irv Blackman at 847-674-5299.
Irv Blackman is a certified public accountant who lives part-time on Marco Island and specializes in estate planning, business succession and asset protection. E-mail him at email@example.com or call 417-9732. His Web site is taxsecretsofthewealthy.com.