The chances are good that if you participate in an employer sponsored retirement plan, you probably don't qualify to make tax deductible contributions to an individual retirement account (IRA). Although you can always make a contribution to a nondeductible IRA (assuming that you or your spouse has earned income at least equal to the contribution), most people don't bother doing this. Such a contribution doesn't yield a tax deduction and although the earnings inside the account build up tax deferred, they're fully taxable as ordinary income when they're distributed.

Instead, people who want to maximize their retirement savings beyond that they're saving at work typically use a Roth IRA account if they qualify (the Roth IRA also doesn't provide an upfront deduction but it does allow earnings to build up tax-free, rather than tax deferred) or invest in a taxable account - such as a tax efficient mutual fund that will yield mostly lightly taxes capital gain income.

Based on a recent law change, the use of a nondeductible IRA now looks more appealing for taxpayers who can't qualify to make a Roth IRA (because their income is too high). The new provision allows taxpayers, beginning in 2010, to convert individual traditional IRAs (such as a nondeductible IRA) to a Roth IRA regardless of the taxpayer's income level. Currently only taxpayers with gross income of no more than $100,000 can convert traditional IRA to a Roth IRA. At the time of the conversion, ordinary income tax is due on the income portion of the IRA, but future earnings accrue tax-free. In addition, for conversions in 2010, the new law allows the resulting tax to be paid over two years - 2011 and 2012.

Why are we telling you this more than two years in advance of 2010?

Because, if you're not yet age 70 1/2 and want to maximize the funds that can go in a Roth IRA, you should be funding nondeductible IRAs now - up to the lesser of your earned income or $4,000 (pr $5,000, if you are age 50 or older by the end of the year for which you're making the contribution). There's still time to fund the contributions for 2006 (if you act by April 17, 2007) and it's not too early to fund for 2007 provided you know you'll have at least $4,000 (or $5,000) of earned income for the year.

Please feel to call us if you'd like to know more about this opportunity for maximizing the tax efficiency of your retirement savings.

Jeffrey Winkleman, CPA, MT, is the head of Margolis & Company’s Tax Advisory Services Group and has over twenty-five years experience. For more information, please call Jeff at (610) 667-6250, or contact him at jwinkleman@marg.com.