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Hooray For the IRA!

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  • Hooray For the IRA!

    There's a very good chance that you could spend 20 or more years as a retiree. All the more reason you should try to contribute as much as you can to your workplace retirement plan. But don't stop there, because another strategy can help you save even more. You can invest outside your retirement plan and still obtain key advantages from an individual retirement account, or IRA.

    There are two basic types of IRAs -- Traditional and Roth -- and each of offers specific advantages. So before you invest, you'll need to consider your situation carefully. For example, will tax deductibility help you most now, or would a tax break later be more advantageous? Your choice also will be determined by your current income level, and how soon you'll need the money.

    This series of articles will explain the issues and describe the advantages of Traditional and Roth IRAs. The next section will feature Traditional IRAs -- the original individual retirement account.

    Traditional IRAs: the original individual retirement accounts

    Congress created the Traditional IRA in 1974 to encourage Americans to save more for retirement by allowing a tax deduction for contributions and deferral of income taxes on earnings.

    You might be able to deduct all of your IRA contributions if you aren't covered by a workplace retirement plan. Even if you are a retirement plan participant, you could be able to deduct all or some of your contributions for the tax year if your earnings don't exceed federal limits.

    As with your workplace retirement plan, an IRA's earnings aren't taxed until you or your beneficiary withdraw money from your account. This reduces current taxes and could boost account earnings since money that would otherwise have gone toward income taxes remains in your accounKeep in mind that income taxes are due on withdrawal. And because IRAs are long-term retirement investments a 10% federal tax penalty might apply to withdrawals made before you turn 59 ½.

    Traditional IRA Q&As

    Q. Who is eligible to invest in a traditional IRA?

    A. You should be eligible as long as you have earned income and are under the age of 70½. You can also contribute to a traditional IRA for a non-earning spouse.

    Q. How much can you contribute each year?

    A. You can contribute up to $5,000 to an IRA in the 2009 tax year. Also, if you are age 50 or older, you can make "catch-up" contributions of up to $1,000 in 2009.

    You can make IRA contributions in a single lump sum; incrementally, as you see fit over the contribution period; or automatically, by payroll reduction or electronic fund transfer from your bank account. And with IRAs, you actually have nearly 16 months to make the maximum annual contribution! That's because contributions made before April 15 of any year can, on your instructions, be assigned to the prior calendar tax year.

    Q. How are IRA contributions invested?

    A. Generally, you can invest your IRA money in various investments including variable annuity investment options, mutual funds and fixed-account options. Whatever your choice, remember that the value of variable options and mutual funds will fluctuate so that your investment, when redeemed, could be worth more or less than the original value.

    Q. How long can you leave money in a traditional IRA?

    A. You must begin withdrawing money at age 70 ½. Your financial advisor can help you calculate the amount of this "required minimum distribution" under federal tax law.

    The next section in this series will discuss the features and advantages of Roth IRAs.

    Roth IRAs-An IRA alternative

    The Roth IRA was created in 1997 by Congress and named after Sen. William V. Roth, Jr. It differs from the traditional IRA in one key aspect: Though contributions to a Roth IRA are never deductible, qualifying withdrawals of earnings are generally tax-free if you've had the Roth IRA account for at least five years and one of these conditions has been met:

    o You're 59 ½ or older

    o You become disabled

    o You're making a first-time home purchase

    o Your death

    Is a Roth IRA right for you? To help you decide, we offer some frequently asked Roth IRA questions and answers.

    Q. Who is eligible for a Roth IRA?

    A. You could be eligible to make a full contribution if you have earned income of less than $166,000 or a partial contribution if you have earned income between $166,000 and $176,000 (married and filing jointly) or for single filers, a full contribution if you earn less than $105,000 and partial between $105,000 and $119,000. You also could be eligible to contribute to a Roth IRA on behalf of a non- or low-earning spouse.

    Q. Why invest in a Roth IRA?

    A. The Roth IRA's unique feature is the possibility of tax-free withdrawal of earnings. Generally, the rule of thumb is this: If you are not eligible to take the deduction for a contribution to a traditional IRA and/or you anticipate that your federal marginal income tax rate will be higher during retirement than during your working years, you might wish to consider a Roth IRA.

    Q. How much can you contribute each year?

    A. You can contribute up to $5,000 in 2009. Also, if you are age 50 or older, you can make a "catch-up" contribution of up to $1,000 in 2009. Unlike a traditional IRA, you can continue to contribute to a Roth IRA even after age 70 ½, provided you still have earned income.

    Q. Can you deduct Roth IRA contributions?

    A. No. Contributions to Roth IRAs are never tax deductible.

    Q. How long can you leave money in a Roth IRA?

    A. As long as you like. Unlike traditional IRAs, Roth IRAs have no federal government requirement to begin withdrawing money while you are alive. However, if you withdraw money before age 59 ½, and the withdrawal doesn't meet the qualifications described above, you might have to pay a 10% federal early withdrawal tax penalty on the earnings (but not on your contributions).

    In the next part, we'll discuss IRAs for non-wage-earning spouses.

    IRAs for spouses with no or low income

    Spouses of either gender who work at raising children, taking care of elderly family members or just keeping the home fires burning dislike being referred to as non-working spouses. Of course, they work; they just don't receive wages for it.

    But these spouses look forward to a comfortable retirement, too. And to help them, Congress permits an individual with earnings to contribute to a "spousal IRA" on behalf of a non- or low-earning spouse.

    A spousal IRA can be either a traditional or Roth IRA, and the same rules apply.

    That is, a spousal traditional IRA offers tax-deferred earnings and, possibly, tax- deductible contributions. A spousal Roth IRA offers growth of earnings and, possibly, tax-free withdrawals of earnings if certain conditions are met. The following Q&A provides more spousal IRA details:

    Q. Who is eligible for a spousal IRA?

    A. As long as you and your spouse meet the requirements of the specific type of IRA you choose, you can establish a spousal IRA.

    Q. Why invest in a spousal IRA?

    A. The main reason is to give the low- or non-earning spouse a tax-advantaged plan in which to save for retirement. The specific tax benefits, of course, depend on the type of IRA you choose.

    Q. How much can you contribute each year?

    A. You can contribute up to $5,500 in your spouse's name in 2009. Also, if your spouse is age 50 or older, you may be eligible to contribute another $1,000 in 2009. If the spousal IRA is traditional, you can make contributions as long as you have earned income and until the spouse reaches 70½. If the spousal IRA is a Roth, you can contribute to the spousal Roth IRA as long as you have earned income.

    If your contributions are invested in mutual fund or variable annuity investment options, keep in mind that the value of your investment will fluctuate so that your account, when withdrawn, could be worth more or less than the original value.

    Q. Are spousal IRA contributions deductible?

    A. Yes, if you and your spouse qualify for a full or partial deductible traditional IRA. No, if either of you do not qualify for a deductible traditional IRA or if the spousal IRA is a Roth.

    Q. What happens when money is withdrawn?

    A. With a spousal traditional IRA, income taxes are payable on withdrawal. Remember that a 10% federal tax penalty might apply to withdrawals before your spouse turns 59 ½.

    With a spousal Roth IRA, qualifying withdrawals of earnings are generally tax-free if you've had the account for at least five years and one of the following conditions applies:

    o Your spouse reaches age 59 ½

    o Your spouse becomes disabled

    o The money is for a first-time home purchase

    o The death of your spouse

    Q. How long can you leave money in a spousal IRA?

    A. Spousal traditional IRA: Required minimum distributions must begin when your spouse turns 70 ½.

    Spousal Roth IRA: Your spouse doesn't have to begin making withdrawals at a specific age. There is no required minimum distribution rule for Roth IRAs during your spouse's lifetime.

    In the next section, we discuss rolling funds over to an IRA.

    Getting it all together-rolling assets into an IRA

    Life is complicated enough. So why not try to simplify your financial life? One way to do that is to reduce the number of retirement investment accounts you have with other employers or other financial service providers by rolling various accounts over to an IRA.

    When you roll over other types of tax-qualified accounts directly to a traditional IRA, the transferred funds will retain their tax-deferred status. But you must make certain the transferred funds are sent to the rollover IRA in a direct rollover by the previous provider and not to yourself. Otherwise, there could be a 20% withholding on the distribution, plus a 10% tax penalty on the amount not rolled over if you're under age 59 ½.

    A traditional IRA can be rolled into a Roth IRA, but again, income taxes are payable on the taxable portion of the rollover amount.

    Rollover IRA facts

    Q. Who should consider a rollover IRA?

    A. You or your spouse can if you currently have an IRA or other tax-advantaged plan. Tax-advantaged plans include IRAs and workplace 401(a), 401(k), 403(b) or governmental 457(b) retirement plans.

    Q. What are the potential advantages of a rollover IRA?

    A. Rollover IRAs represent important potential benefits such as:

    1. Simplifying your financial life

    2. Retaining the benefits of tax-advantaged growth

    3. Having more control over investments

    4. Possibly gaining access to an expanded and/or more suitable set of investment options

    5. Possibly getting access to investments with lower fees and/or more consistent performance

    6. An opportunity to transfer money to a more stable provider

    7. Benefiting from a specific provider's reputation for personal service and guidance

    8. Making it easier to determine if an investment plan is still on track

    9. Making it easier to determine the level of investment risk

    10. Seeking more flexible withdrawal terms

    Q. When is a good time to roll assets over to an IRA?

    A. Though you can generally roll funds over to an IRA at any time, and there is no limit to the amount you can roll over, certain life events seem to lend themselves more readily to this opportunity. Examples:

    o You leave your current employer

    o You get a new job with a new employer

    o You receive a payout or lump-sum distribution from a former employer

    o You retire

    o You are confused by all the paperwork you receive each quarter (or more often) from all your investment accounts

    o You are faced with a distribution event from your tax-qualified non-IRA account.

    o Your spouse dies, and you must take a payout or lump-sum distribution from your deceased spouse's account

    o Your spouse must take a payout or lump-sum distribution from your account upon your death

    Q. What can't be rolled over into an IRA?

    A. Distributions not eligible for rollover include required minimum distributions, payments based on life expectancy, payments for a period of 10 years or more, loan proceeds, or hardship or unforeseeable emergency withdrawals.

    This information is general in nature and may be subject to change. Neither VALIC nor its financial advisors or other representatives give legal or tax advice. Applicable laws and regulations are complex and subject to change. Any tax statements in this material are not intended to suggest the avoidance of U.S. federal, state or local tax penalties. For legal or tax advice concerning your situation, consult your attorney or professional tax advisor.

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