Overview: ROTH IRA

Issue or Restriction


Advantage for 1417Power Student Employees


Lesser of Earned Income
(i.e. box 1 on W-2) or $5000 per year.
The requirement being there MUST be W-2 box 1 income.

The 1417Power program provides a combination of wage withholding and direct contribution to result in the earned income (W-2 box 1) and the amount contributed to the ROTH IRA to be maximized up to the ROTH IRA limits.



Use of After Tax Dollars

The 1417Power program is designed for student employees that have no or very limited other taxable income. The assumption is; 1417Power will be the student employee’s only source of taxable income and withholding will be for single no dependents from IRS pub 15 (2014) table 1 page 53. It is assumed the student employee will have no personal deduction (the parents with higher tax rates will use their dependent deduction to offset their much higher tax rate). Also the student employee will have no itemized deduction. Depositing after tax dollars that have experienced a low or no income taxation rate into a ROTH IRA maximizes the leverage of the ROTH IRA tax exemption for all future earnings and all qualified distributions from the ROTH IRA.



Starting Early and Compounding


The 1417Power program is intended for young individuals 14 years of age and older. The minimum 14 years is required by USA and state child labor laws. By starting at age 14 the first year’s contribution has 53 years to compound. If the fund earns the S&P index historical average of 11.5% annually* for this period the value of compounding produces a 320.308 multiple on each dollar invested. At maximum $5,500 contributed at age 14 the value at age 67 could be: 5500*320.308 = 1,761,695.
If a person waits until they are 25 to make their first ROTH IRA contribution the impact of reducing the compounding to 42 years is; the compounding multiple is reduced to 96.726. At maximum $5,000 contribution at age 25 the value at age 67 could be: 5500*96.726 = 531,994.5.
Additionally, it is probable that by age 25 the individual will be in a higher tax bracket, thus costing more gross income to net the after tax dollars to make the ROTH IRA contribution.

ROTH IRA Background and how it applies to 1417Power employees

ROTH IRA is a special type of Individual Retirement Account and is fully detailed in IRS publication 590. The eligibility restriction, annual contribution limit, impact of other retirement program participation and income limits often mean career wage earners with company 401K programs have limited to no opportunity to make contributions to a ROTH IRA. Additionally, ROTH IRA contributions are made from after tax dollars. 1417Power student employees are uniquely qualified to make contributions to their ROTH IRA and because of the elapsed years until they retire they have the opportunity to see the impact of compounding investment returns. The table to the right summarizes the advantages of 1417Power and ROTH IRA. 1417Power is not a financial advisor, this information is provided for your convince only. You are encouraged to contact your financial advisor for additional information about the Roth IRA program.

Explanation from Wikipedia, the free encyclopedia: November 11, 2011

Roth IRA (Individual Retirement Account) is a special type of retirement plan under US law that is generally not taxed, provided certain conditions are met. The tax law of the United States allows a tax reduction on a limited amount of saving for retirement. The Roth IRA is named for its chief legislative sponsor, Senator William Roth of Delaware. The Roth IRA's principal difference from most other tax advantaged retirement plans is that, rather than granting a tax break for money placed into the plan, the tax break is granted on the money withdrawn from the plan during retirement.

Established by the Taxpayer Relief Act of 1997 (Public Law 105-34), a Roth IRA can be an individual retirement account containing investments in securities, usually common stocks and bonds, often through mutual funds (although other investments, including derivatives, notes, certificates of deposit, and real estate are possible). A Roth IRA can also be an individual retirement annuity, which is an annuity contract or an endowment contract purchased from a life insurance company. As with all IRAs, the Internal Revenue Service mandates specific eligibility and filing status requirements. A Roth IRA's main advantages are its tax structure and the additional flexibility that this tax structure provides. Also, there are fewer restrictions on the investments that can be made in the plan than many other tax advantaged plans, and this adds somewhat to the popularity, though the investment options available depends on the trustee (or the place where the plan is established).

The total contributions allowed per year to all IRAs is the lesser of your taxable compensation (which is not the same as adjusted gross income) and $5,000 ($6,000 for those age 50 and above (this total may be split up between any number of Traditional and Roth IRAs. In the case of a married couple, each spouse may contribute the amount listed):
For example, if you are single, aged 49 or under, and earn $10,000, you can contribute a maximum of $5,000 in 2008. However, if you are single and earn $2,000, you can contribute only a maximum of $2,000 in 2008 ($2,000 is the lesser of $2,000 and $5,000).


Advantages & Limitations

Differences from a Traditional IRA

*Source: Wikipedia.

In contrast to a Traditional IRA, contributions to a Roth IRA are not tax-deductible. Withdrawals are generally tax-free, but not always and not without certain stipulations (i.e., tax free when the plan has been opened for at least 5 years for principal withdrawals and the owner's age is at least 59.5 for withdrawals on the growth portion above principal). An advantage of the Roth IRA over a Traditional IRA is that there are fewer withdrawal restrictions and requirements. Transactions inside an account (including capital gains, dividends, and interest) do not incur a current tax liability.


  • Direct contributions to a Roth IRA may be withdrawn tax free at any time.[1] Rollover, converted (before age 59.5) contributions held in a Roth IRA may be withdrawn tax and penalty free after the "seasoning" period (currently 5 years). Earnings may be withdrawn tax and penalty free after the seasoning period if the condition of age 59.5 (or other qualifying condition) is also met. This differs from a Traditional IRA where all withdrawals are taxed as Ordinary Income, and a penalty applies for withdrawals before age 59.5. In contrast, capital gains on stocks or other securities held in a regular taxable account for at least a year would be taxed at the lower long-term capital gain rate, which is currently 15%. This potentially higher tax rate for withdrawals of capital gains from a Traditional IRA is a quid pro quo for the deduction taken against ordinary income when putting money into the Roth IRA.
  • If there is money in the Roth IRA due to conversion from a Traditional IRA, the Roth IRA owner may withdraw up to the total of the converted amount without penalty, as long as the "seasoning" period (currently five years) has passed on the converted funds.
  • Up to a lifetime maximum $10,000 in earnings withdrawals are considered qualified (tax-free) if the money is used to acquire a principal residence for a first time buyer. This house must be acquired by the Roth IRA owner, their spouse, or their lineal ancestors and descendants. The owner or qualified relative who receives such a distribution must not have owned a home in the previous 24 months.
  • Contributions may be made to a Roth IRA even if the owner participates in a qualified retirement plan such as a 401(k). (Contributions may be made to a Traditional IRA in this circumstance, but they may not be tax deductible.)
  • If a Roth IRA owner dies, and his/her spouse becomes the sole beneficiary of that Roth IRA while also owning a separate Roth IRA, the spouse is permitted to combine the two Roth IRAs into a single plan without penalty.[2]
  • If the Roth IRA owner expects that the tax rate applicable to withdrawals from a Traditional IRA in retirement will be higher than the tax rate applicable to the funds earned to make the Roth IRA contributions before retirement, then there may be a tax advantage to making contributions to a Roth IRA over a Traditional IRA or similar vehicle while working. There is no current tax deduction, but money going into the Roth IRA is taxed at the taxpayer's current marginal tax rate, and will not be taxed at the expected higher future effective tax rate when it comes out of the Roth IRA.
  • Assets in the Roth IRA can be passed on to heirs.
  • The Roth IRA does not require distributions based on age. All other tax-deferred retirement plans, including the related Roth 401(k),[3] require withdrawals to begin by April 1 of the calendar year after the owner reaches age 70.5. If you don't need the money and want to leave it to your heirs, this is a great way to accumulate income tax free. Beneficiaries who inherited Roth IRAs are subject to the minimum distribution rules.
  • Roth IRAs have a higher "effective" contribution limit than Traditional IRAs, since the nominal contribution limit is the same for both Traditional and Roth IRAs, but the post-tax contribution in a Roth IRA is equivalent to a larger pre-tax contribution in a Traditional IRA that will be taxed upon withdrawal. For example, a contribution of the 2008 limit of $5,000 to a Roth IRA may be equivalent to a Traditional IRA contribution of $6667 (assuming a 25% tax rate at both contribution and withdrawal). In 2008 you cannot contribute $6667 to a Traditional IRA due to the contribution limit, so the post-tax Roth contribution may be larger.
  • On estates large enough to be subject to estate taxes, a Roth IRA can reduce estate taxes since tax dollars have already been subtracted. A Traditional IRA is valued at the pre-tax level for estate tax purposes.


Income Limits

Congress has limited who can contribute to a Roth IRA based upon income. A taxpayer can contribute the maximum amount listed previously only if their Modified Adjusted Gross Income (MAGI) is below a certain level. Otherwise, a phase-out of allowed contributions runs proportionally throughout the MAGI ranges shown to the right. Once MAGI hits the top of the range, no contribution is allowed at all; however, a minimum of $200 may be contributed as long as MAGI is below the top of the range (e.g. A single 40 year old with MAGI $119,999 may still contribute $200 to a Roth IRA vs. $30). Excess Roth IRA contributions may be re-characterized into Traditional IRA contributions as long as the combined contributions do not exceed that tax year's limit. The Roth IRA MAGI phase out ranges for 2010 are:

  • Single filers: Up to $105,000 (to qualify for a full contribution); $105,000 - $120,000 (to be eligible for a partial contribution)[4]
  • Joint filers: Up to $169,000 (to qualify for a full contribution); $169,000 - $179,000 (to be eligible for a partial contribution)[4]
  • Married filing separately (if the couple lived together for any part of the year): $0 (to qualify for a full contribution); $10,000 (to be eligible for a partial contribution).

The lower number represents the point at which the taxpayer is no longer allowed to contribute the maximum yearly contribution. The upper number is the point as of which the taxpayer is no longer allowed to contribute at all. Note that people who are married and living together, but who file separately, are only allowed to contribute a relatively small amount.

However, once a Roth IRA is established, the balance in the plan remains tax-sheltered, even if the taxpayer's income rises above the threshold. (The thresholds are just for annual eligibility to contribute, not for eligibility to maintain a Roth IRA.) This would be a wise move for retired people who have a comfortable asset base to pay the taxes.

To be eligible, you must meet the earned income minimum requirement. In order to make a contribution, you must have taxable compensation (not taxable income from investments). If you make only $2,000 in taxable compensation, your maximum IRA contribution is $2,000.

Contribution Limits

Contributions to both a Roth IRA and a Traditional IRA are limited to the total amount allowed for either ($5,000 for tax year 2010 -- $6,000 if over 50 years of age). [5]

Conversion Limits

Through 2009 only taxpayers with MAGI of less than $100,000 in the year of conversion and not married filing separately were allowed to convert from a Traditional IRA to a Roth IRA (the converted amount is not included in MAGI). TIPRA 2005 eliminated the MAGI limit and filing status restriction on conversions starting in 2010. Thus regardless of income, contributions can have been made to a Traditional IRA in previous years, and then rolled over in 2010 and beyond.


Direct contributions may be withdrawn at any time.[1] Eligible (tax and penalty free) distributions of earnings must fulfill two requirements. First, the seasoning period of five years must have elapsed, and secondly a justification must exist such as retirement or disability. The simplest justification is reaching 59.5 years of age, at which point qualified withdrawals may be made in any amount on any schedule. Becoming disabled or being a "first time" home buyer can provide justification for limited qualified withdrawals. Finally, although one can take distributions from a Roth IRA under the substantially equal periodic payments (SEPP) rule without paying a 10% penalty,[6] any interest earned in the IRA will be subject to tax[7] and a substantial penalty which forfeits the primary tax benefits of the Roth IRA.

Inherited Roth IRAs

Although it has been mentioned in passing above, the tax treatment of inherited Roth IRAs is noteworthy. Transfers of Roth IRAs between spouses when one spouse dies, just like other IRAs, are tax-free and the spousal beneficiary is free to make contributions and otherwise control the account. For estate tax purposes, if a Roth IRA is part of a descendant’s estate that is valued under the taxable inheritance minimum, no estate tax needs to be paid. If the estate is larger than that, the Roth IRA will be taxable to beneficiaries (other than surviving spouses).

Non-spouse beneficiaries are not allowed to make additional contributions to the inherited Roth IRA, or combine it with their own Roth IRA.

In addition, the beneficiary may elect to choose from one of two methods of distribution. The first option is to receive the entire distribution by December 31st of the fifth year following the year of the IRA owner’s death. The second option is to receive portions of the IRA as distributions over the life of the beneficiary, terminating upon the death of the beneficiary and passing on to a secondary beneficiary.

For income tax purposes, distributions from Roth IRAs to beneficiaries are not taxable if the Roth IRA was established for at least five years before the distribution occurs.[8] 

Further Readings

  • Bledsoe, John D. (1998). Roth to Riches: The Ordinary to Roth IRA handbook. Dallas, TX: Legacy Press. ISBN 0962911410OCLC 40158081.
  • Daryanani, Gobind (1998). Roth IRA Book: An Investor's Guide: Including a Personal Interview with Senator William V. Roth, Jr. (R-De), Chairman, U.S. Senate Finance Committee. Bernardsville, NJ: Digiqual Inc.. ISBN 0966539818OCLC 40340829.
  • Merritt, Steve (1998). All about the New IRA, Roth, Traditional, Educational: How to Cash in on the New Tax Law Changes. Melbourne, FL: Halyard Press. ISBN 1887063072OCLC 39363078.
  • Slesnick, Twila; and Suttle, John C. (2007). IRAs, 401(k)s, & Other Retirement Plans: Taking Your Money Out (8th edition ed.). Berkeley, CA: Nolo. ISBN 9781413306965OCLC 85162294.
  • Trock, Gary R. (1998). The Roth IRA Made Simple. Grifith, IN: Conquest Pub.. ISBN 0966622707OCLC 40641031.