Perhaps a Roth IRA isn't so safe after all

If you could perfectly predict the future, financial planning would be a piece of cake.

Unfortunately, that's not possible. Future rates of return and inflation are not precisely predictable. Neither is how long you will live. Neither are tax rates.

Which brings me to the topic for today. The Roth IRA is a great deal because it allows you to save and invest after-tax dollars that won't be taxed on withdrawal. Even better, unlike a traditional IRA or 401(k) plan, retirees aren't mandated to pull certain amounts out each year, providing flexibility in income and tax planning. Better still, you can pass those dollars on to heirs with much fewer restrictions than is the case with a traditional IRA or 401(k).

That is, unless they change the rules.

Well, apparently, changing the rules is precisely what is being considered. According to an article in the WSJ, two proposals being sent to Congress are trying to do just that.

First, one proposal seeks to require Roth owners to start taking distributions at age 70 1/2, just like with traditional IRAs and 401(k)s. That would remove a major element of the Roth's appeal both for retirees and their heirs.

Second, the other proposal attempts to end the ability of heirs to stretch out distributions. This would eliminate another of the major appeals of the Roth IRA as an estate planning tool.

The Roth IRA has created a garden industry of advisers, lawyers and accountants who have helped investors (for an hourly fee, of course), to shuffle assets from traditional IRAs to Roths and back again in order to dodge the tax man. This has always been premised on the predictability of the law, which is now in question.

And, this brings us back to the difficulty of financial planning. It isn't easy, nor is it rocket science. What makes financial planning difficult is that it is inherently decision making under uncertainty. If you say X will result if Y occurs, there is usually an assumption behind that. When that assumption can and almost certainly will change--like tax laws--you can wind up with plans that aren't quite as solid as they were described to be.

I frequently council investors against setting their financial plans in too much concrete. Instead, a range of assumptions for returns, inflation, taxes, etc. should be used. Nor should it be assumed that things like Social Security will be around, especially for younger investors; at any point in time, the majority or vocal minority can yank away the benefits you were promised. 

Instead, it's best to plan to take care of yourself regardless of how the rules are changed. It's better to be approximately right than precisely wrong.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.