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Case Study Report 3


Gifting a 1417Power Program versus gifting a $5,500 per year Roth IRA contribution after your child has another source of earned income (a job).

 

 


Puropse

The purpose of this report is to summarize the results of an analysis of gift funding the 1417Power Program versus gifting a $5,500 per year Roth IRA contribution after your child has another source of earned income.

Concept

The concept of waiting until your child has a wage paying job, thus becoming eligible for making contributions to a Roth IRA but before they become ineligible, and gifting a contribution directly to their Roth IRA has been proposed as a method of providing your future generation’s retirement financial security. We will refer to this as the “Matching Gift Roth IRA Contribution” approach (or concept).

Risks

The matching Gift Roth IRA Contribution concept has real risks that make it especially difficult to make a simple comparison and equally difficult to implement. The two major risks are: (1) the limited opportunity for your child to have earned income in the 16 to 20 age range. (2) the risk of triggering the Gift Tax.

Risk of Limited Employment Opportunity

The US Department of Labor Bureau of Labor Statistics reports: “Unemployment in the 16 - 19 age group is 73.6%”. This implies your child has a 26.4% probability of any employment. The Department of Labor notes that: “Unemployment is pronouncedly higher for the younger versus the oldest age in the group”. If they do achieve employment the risk is they will have no earnings or their total earnings will not be sufficient to allow a maximum annual Roth IRA contribution.

Risk of Triggering Gift tax

Gift Tax is a complex tax. The IRS gift tax definition is: “Any transfer to an individual, either directly or indirectly, where full consideration (measured in money or money's worth) is not received in return”. The IRS maximum annual gift tax exclusion may change annually, as an example: 2006 - 2008 the limit was $13,000, in 2009 - 2016 the limit is $14,000. The IRS allows the following exclusion from gift tax:

  1. Gifts that do not exceed the annual exclusion for the calendar year.
  2. Tuition or medical expenses you pay for someone (the educational and medical exclusions).
  3. Gifts to your spouse.
  4. Gifts to a political organization for its use.
  5. Gifts to qualifying charities.

 

If you anticipate your child will be enrolled in a college or university at ages 19 - 21 you must report any gifted amounts other than tuition paid to an accredited educational institution. The implication is; all college/university fees, cost of books, cost of room and board, and all other non-direct tuition costs are counted as gifts. If the total of your gifts for all the listed items and any other items exceed $22,500 (assuming you are using the married couple two-person gift opportunity, the exclusion amount is reduced to $8,500 if you do not qualify as a couple) your excess gift and your Roth IRA contribution gift is taxable. The income tax due on the gift amount is at your marginal tax rate (see table)

If you plan ahead and create a savings account in the child’s name to take advantage of more years to build an account value while staying under the annual gift limit you have two risks:

  1. If the account earns in excess of $2,200 in earnings in any year, the amount is subject to your marginal tax rate
  2. If the child has a cash account, the value is counted as a child’s asset for FAFSA reporting (FAFSA reported “need” is the basis of many scholarship and all financial aid).

The combination of limited employment opportunity, gift tax exposure and financial aid impact suggest creating a child’s savings account or wait for the possibility of sufficient qualified income and no Gift Tax during the age 19 - 21 are unwise.

The following analysis is provided to aid the reader in determining the comparative value of the 1417Power program versus gifting a Roth IRA contribution based on earnings at a future date.

Family Income

Marginal tax rate

$74,900 to $151,200

25%

$151,200 to $230,450

28%

$230,450 to $411,500

33%

$411,500, to $464,850

35%

$464,850 +

39.6%

 

Assumptions & Limitations

 

Study Assumptions:

  • An 11.5% annual rate of return is used for both the 1417Power Roth IRA and the matching gift Roth IRA
  • The individual starts 1417Power program participation at age 14
  • The individual starts matching gift Roth IRA contribution at age 19 at the maximum $5,500 annual amount for three successive years
  • The individual will have no other taxable income ages 14,15 and 16
  • The is no tax for the: “Untaxed Matching gift Roth IRA contribution” analysis
  • The marginal tax rate of 28% is used in the: “Taxed Matching gift Roth IRA contribution” analysis
  • The 1417Power program is funded by a non-taxable gift to the participant because the annual cost never exceeds the single person gift limit

 

Study Limitations:

  • The study is based on 2015 tax code and tax tables
  • The calculated Roth IRA future value is not a forecast or projection. It provides, on a mathematical basis, comparatives that are accurate for decision making

 

Analysis Methodology

The analysis is based on 3 consecutive years of matching gift Roth IRA contribution at the maximum $5,500 annual amount starting at age 19. Versus the equivalent cost applied to the 1417Power program starting at age 14. In the “taxed matching gift” analysis the equivalent funds result in extended months of participation in the 1417Power Program because of the $5,500 Roth IRA contribution annual limit.
The matching gift cost is based on the annual $5,500 maximum contribution limit in the non-taxed analysis and on the annual $5,500 maximum contribution limit plus 28% tax in the taxed analysis.
The lowest cost for the 1417Power Program was calculated based on applying the 1417Power maximum 20% discount. The higher value of the 1417Power Program was calculated by applying the 1417Power maximum referral and revenue share credits. These are standard 1417Power Programs.

Findings:

The table below provides a summary of the cost and total Roth IRA account value of the 1417Power Program versus a non-taxed and a taxed matching gift contribution programs.

Item

1417Power

Non-taxed Matching Gift Roth IRA contribution*

Taxed Matching Gift Roth IRA contribution*

Cost

$13,200** to $16,500

$16,500

 

Value of Roth IRA account at age 67*

$2,842,000 to $3,331,000***

$2,761,000

 

Cost

$18,240** to $22,200

 

$22,917

Value of Roth IRA account at age 67*

$3,768,000 to $4,745,000***

 

$2,761,000

* Roth IRA value is based on a mathematical calculation using 11.5% annualized rate of return. 11.5% is the 50-year average S&P500 index annual rate of return is not a forecast or prediction. Past performance of any investment program is not a predictor of future performance.

** 1417Power offers prepayment discounts up to 20%. The lower cost represents the maximum discounted program cost.

*** 1417Power offers referral and revenue share credits that increase the participants level and or duration up to a maximum of a 30% increase in participation. This results in approximately a 30% increase in the Roth IRA contribution amount.

 

Conclusion and recommendation

The 1417Power Program results in a 2.9% to 20.6% larger Roth IRA account value at age 67* versus the non-taxed matching gift. The 1417Power Program results in a 36.5% to 71.9% larger Roth IRA account value at age 67* versus the taxed matching gift. The 1417Power Program advantage increases substantially when the 1417Power discounts are applied.

In conclusion the analysis strongly recommends the 1417Power Program versus the matching gift Roth IRA contribution concept because the 1417Power Program has higher valuation and because the 1417Power Program participation is 100% within your control versus only a 26.4% probability of your child finding adequate employment.