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New Laws Could Change IRA Contributions and Withdrawal Rules for High Net Worth Individuals

Congress’ Ways and Means Committee recently released the first draft of a major tax bill that could change the rules for IRA Contributions.

While these accounts have helped many prepare for their future, there have been documented situations recently (::cough cough:: Peter Thiel ::cough cough::) that expose the loopholes that have allowed wealthy individuals to legally avoid taxation.

What are the proposed changes, and how would they effect you?

Elimination of Back Door Contributions to Roth IRA

Currently, with a Roth IRA, you can contribute funds into the account on an after-tax basis, and the funds then grow tax-free. Once you reach age at 59 ½ years old, you will be able to start withdrawing funds tax-free without a penalty.

But, you are restricted from contributing to a Roth account if your income exceeds $140,000 (for individuals) or $208,000 (for married couples).

If you’ve listened to the Just Don’t Lose The Money podcast, you’ve probably overheard the guys talk about a loophole that has allowed wealthy individuals to convert funds into a Roth IRA – using a “backdoor” strategy. With this strategy, you will invest money into a traditional IRA and then transfer it to a Roth.

If the new proposal from Congress passes, this loophole will be eliminated.

This provision would kick in for the tax year 2022, so if passed it would give you an opportunity to convert these after-tax contributions by the end of 2021 into a Roth IRA. 

Is A Roth Conversion right for you? We have a previous article that goes in to a bit more depth on that – you can read that by clicking here. 

Restriction on New Funds Added

The new proposal also will restrict WHO can add funds to their IRA account.

While traditional IRAs currently do not have income caps or other restrictions, this could soon be changing. The new proposal will restrict individuals with more than $10 million in IRA retirement savings from contributing more to their IRA. This rule change will only pertain to individuals with incomes in excess of $400,000, or $450,000 when filing jointly.

Required Withdrawals

Within the new proposal, there is also a stipulation for required withdrawals from the IRA accounts.

Regardless of age, individuals that have more than $10 million in retirement savings AND are high-income-earners (again, $400,000+ for single filers, or $450,000 if filing jointly) will be required to withdraw at least 50% of the excess above $10 million each year.

For those that have more than $20 million in their accounts, they will be required to withdraw funds from the Roth IRAs and 401ks first.

Investments Requiring Accreditation

Today, there are many complex investments that can be made through an IRA that require you to meet certain accreditation hurdles, including having a certain level of income, assets, or even education. This can include investing in private companies. There are have been stories of high-net-worth individuals using their IRAs to invest in private companies (like Peter Thiel) and amassing a substantial net worth in their tax-sheltered account. The recent proposal would prevent account holders from using their IRAs for these types of investments.

Overall, the proposed changes will have a significant impact on the potential tax burden for high-net-worth individuals that have their worth stored in tax-advantaged retirement accounts.

While this proposal has various steps to go through before final approval, it is clear that some reform to retirement accounts is coming. Make sure you speak with your financial advisor to stay aware of any tax law changes and how they may effect your probability of success in retirement.


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