Early retirement is a possibility for you. You are 60, so IRA penalties no longer apply, but you have to be careful about recognizing income since it may reduce your social security benefit if you decide to take an early distribution, not to mention tax impacts. You have also begun to dabble in foreign exchange trading and notice that you have a knack for generating profitable trades. Is there anyway to shield this new stream of income from recognition for both social security and tax authorities in a legitimate way?
The answer to your query is “Yes”! It is possible to set up an Individual Retirement Account (IRA), either a self-directed or Roth IRA, for trading currencies. The law permits this day-trading investment activity in currencies, as opposed to restrictions that are placed on stocks. Since the rules are complex, you may need to consult your tax adviser and then your forex broker before embarking on any account transfer or deposit strategy to ensure that everything is done to suit your individual tax and income situation.
A separate forex trading IRA must be opened first, and then either funds must be transferred to it from another IRA or new deposits made. There are limitations on new deposits. Once set up, the earnings are sheltered from tax and income recognition. Self-directed IRA’s have age limitations associated with them. No new contributions may be deposited after age 70 ½, and Required Minimum Distributions, or RMD’s, must also begin at that age. Roth IRA’s have neither of these restrictions.
If you already have an IRA, then a transfer can be arranged tax-free to your new forex trading IRA, but only if the transfer comes from a similar type of IRA. In other words, a traditional IRA, where all funds must be recognized as ordinary income when withdrawn, may only be transferred to another traditional IRA. Deposits in a Roth IRA are not taxable when withdrawn, subject to certain penalty qualifying rules, and may be transferred with no tax effects to another Roth IRA. Once again, your broker will advise you on how to perform this set up correctly.
There is one more option to consider. A new law for 2010 removes the income restrictions related to transfers from a traditional IRA account to a Roth IRA. The transfer has to be recognized for tax purposes, but it would allow for the funding of a Roth IRA devoted specifically to Forex trading if one was not allowed beforehand. In this case, you must be anticipating that the funds will remain in the Roth IRA for a minimum of five years, but the income tax on the transfer would be dealt with currently. This treatment may be an advantage by preventing reductions to early social security benefits or if you expect tax rates to increase in the near term. The law also allows the transfer income to be spread over two years.
Foreign exchange trading has become a very popular investment activity over the past decade. In many cases the rates of return can be highly volatile and unpredictable. Sheltering these current income streams from current taxation becomes highly advisable if a suitable method can be arranged. The “multiplier” effect of earnings piling up without tax considerations is appealing to everyone. Individual Retirement Accounts, especially the Roth IRA version, are appropriate for the task. Since there may be other factors that could determine which options are most suitable to meet your financial needs, be sure to consult your tax professional and your broker before making any decisions.
Prepared by: Tom Cleveland, June 2, 2010
