High earners and wealthy taxpayers are going to feel the bite of upcoming tax hikes. Therefore, 2013 could be a good year for you to beef up your retirement savings.

The Time Is Now
If you are a high-income earner and are participating in any type of employer-sponsored plan, you may be wise to divert whatever portion of your earnings you can. However, it is possible that your contributions may not be deductible this year or they may no longer grow tax-deferred. If you received a Christmas bonus this year, then your retirement plan may be a good place to put that bonus.

Roth Conversions
If your income is too high to allow you to contribute to a Roth IRA, you can get around this in some instances by contributing to a non-deductible IRA and then converting it to a Roth IRA. This is a relatively simple process if you don't have any other traditional tax-deferred IRAs or retirement accounts, but if you do, then the balances of those accounts will be added to any investment gain that you incurred in the non-deductible IRA before you converted it. Then the total amount is compared to the total of those amounts plus your non-deductible contribution to compute how much of your contribution is taxable.

Bill has $75,000 in an old traditional 401(k). He now earns $300,000 a year as a doctor and makes a non-deductible contribution of $5,000 into a traditional IRA. The IRA balance grows by $2,000 before he converts it to a Roth IRA. Bill will calculate the taxable portion of his $7,000 conversion by adding the $2,000 gain to the $75,000 pretax balance in his old 401(k) to get $77,000. Divide $77,000 by $82,000 (the previous total plus the amount of his original contribution) to get 93.9%. This is the percent of the conversion that must be taxed. Bill will therefore owe tax on $6,573 of the $7,000 conversion balance.

If you like the idea of converting your non-deductible contributions into a Roth IRA but don't want to have to factor all of your previous traditional retirement plan and IRA balances into the equation, you can roll all of them into your current retirement plan first. Then immediately convert your contribution before any investment growth takes place. This will allow you to proceed with the conversion strategy with no tax implications from your other retirement savings. You may also want to consider dipping into your cash fund and paying the tax bill up front to convert your traditional retirement balances into Roth accounts.

Other Strategies
If you have already made the maximum possible contributions to your retirement plans and converted everything that you can or want to into Roth accounts, then you can still turn to the usual traditional alternatives for taxpayers in your situation. You can invest in one or more annuity contracts, which grow tax-deferred regardless of whether or not they are used inside a retirement plan until withdrawal at age 59 1/2. Annuities do not have contribution limits, although you can never take a deduction for contributing to them outside a retirement plan. You can also buy and hold shares of individual stocks. While you will most likely have to pay a higher rate of tax on any dividends that you receive, you can still defer tax on any gain you realize when you sell it - possibly until a time when capital gains tax rates improve. ETFs are a great option since they can accomplish the same objective with greater diversification.

The Bottom Line
Tax changes are coming this year. This is the time to prepare yourself and shield as much of your income and assets as possible from Uncle Sam. For more information on how you can lower your tax bill, consult your tax or financial advisor.

Related Articles
  1. Retirement

    Suddenly Pushed into Retirement, How to Handle the Transition

    Adjusting to retirement can be challenging, but when it happens unexpectedly it can be downright difficult. Thankfully there are ways to successfully transition.
  2. Investing

    What a Family Tradition Taught Me About Investing

    We share some lessons from friends and family on saving money and planning for retirement.
  3. Retirement

    Two Heads Are Better Than One With Your Finances

    We discuss the advantages of seeking professional help when it comes to managing our retirement account.
  4. Retirement

    5 Secrets You Didn’t Know About Traditional IRAs

    A traditional IRA gives you complete control over your contributions, and offers a nice complement to an employer-provided savings plan.
  5. Retirement

    Is Working Longer A Viable Retirement Plan?

    Fully funding someone’s life for three decades without work is tricky. The result is retirement has become, for many, a 30-year adventure.
  6. Retirement

    Don’t Retire Early, Change Careers Instead

    Though dreamed of by many, for most, early retirement is not a viable option. Instead, consider a midlife career change.
  7. Retirement

    Using Your IRA to Invest in Property

    Explain how to use an IRA account to buy investment property.
  8. Retirement

    How a 401(k) Works After Retirement

    Find out how your 401(k) works after you retire, including when you are required to begin taking distributions and the tax impact of your withdrawals.
  9. Retirement

    Top 3 Cities To Retire To In Cambodia

    Take your pick of a party-party beach town, an architectural wonder in the jungle, or a less touristy town with vestiges of French colonial style.
  10. Personal Finance

    How the Social Security Reboot May Affect You

    While there’s still potential for some “tweaking” around your Social Security retirement benefits, I’d like to share some insight on what we know now.
  1. When can catch-up contributions start?

    Most qualified retirement plans such as 401(k), 403(b) and SIMPLE 401(k) plans, as well as individual retirement accounts ... Read Full Answer >>
  2. Who can make catch-up contributions?

    Most common retirement plans such as 401(k) and 403(b) plans, as well as individual retirement accounts (IRAs) allow you ... Read Full Answer >>
  3. Can you have both a 401(k) and an IRA?

    Investors can have both a 401(k) and an individual retirement account (IRA) at the same time, and it is quite common to have ... Read Full Answer >>
  4. Are 401(k) contributions tax deductible?

    All contributions to qualified retirement plans such as 401(k)s reduce taxable income, which lowers the total taxes owed. ... Read Full Answer >>
  5. Are 401(k) rollovers taxable?

    401(k) rollovers are generally not taxable as long as the money goes into another qualifying plan, an individual retirement ... Read Full Answer >>
  6. Are catch-up contributions included in the 415 limit?

    Unlike regular employee deferrals, catch-up contributions are not included in the 415 limit. While there is an annual limit ... Read Full Answer >>

You May Also Like

Trading Center