Over the last few years the term “Omnibus IRA” appeared in the retirement plan marketplace.  So what does the term mean?

An Omnibus IRA gets its name from a trading process where a number of mutual fund, money market and/or similarly traded securities transactions are combined to initiate one trade per fund per account.  In this instance, the account is termed Omnibus because it contains the holdings of sub-accounts.  The recordkeeper and the recordkeeper’s system allocates a portion of this “Omnibus” account to underlying accountholders (sub-accounts).

This practice is most commonly utilized in the 401(k) industry where a recordkeeper and/or custodian establishes one account per plan at the fund company or similar entity, either directly, through the National Securities Clearing Corporation or via a trading partner.  Each day all of the transactions that are initiated for underlying plan participants are combined to create a single net transaction for the plan.  When the trades are settled, the recordkeeper allocates the results of the trade proportionally to all participants that were involved in the initial transaction.  This method of trading lowers the trading fees for the asset managers and decreases other costs because the recordkeeper is responsible for individual statements and reconciliation on each underlying sub-account.  In many cases, mutual fund companies and asset providers are willing to pay a fee to the recordkeeper for providing these types of administrative services.

The Omnibus IRA uses this same concept to create essentially an IRA plan that has underlying IRA accountholders.   Some 401(k) recordkeepers try to run this type of arrangement on their recordkeeping systems.  If a recordkeeper does undertake this process, the key thing to remember is that there is no “Trust” so each individual account must be treated as essentially a retail account.  This means:

• Prospectus rules for trading securities must be followed – individual account holders must receive a prospectus on the investment initially and anytime one changes or is updated.
• Retail IRA initial minimum and subsequent minimum contributions requirements must be followed.  In a retirement plan, the size of the plan takes care of any minimum investment requirements but not in an IRA, and retirement plan minimums are generally different than IRA minimums.
• The prospectus and fund company must permit an IRA account to be traded at Net Asset Value (NAV).

In addition to the items above, some fund companies, such as American Funds, do not permit the use of Omnibus trading for IRAs.  Also, some fund companies may permit omnibus trading but may not permit trading at NAV for some or all of its share classes.

The Omnibus IRA is a fairly new concept and even the fund companies are struggling with how to handle these types of accounts.  As a result, it is imperative that the firm providing the IRA services work carefully with the fund companies to determine eligibility for their funds for use in an IRA.  Those firms must also have the systems and processes in place to treat the IRA accountholders as retail accounts.

It is being reported by various news channels including CNN and the Wall Street Journal that the State of the Union address will again include mention of the mandatory payroll deduction IRA program included in the 2009/2010 Federal Budget (the Automatic IRA).    While the details of the proposal, specifically those addressing the types of investment permitted in these accounts, are still being debated, the core of the proposal remains the same – an employer with 10 or more employees without a retirement plan must offer a payroll deduction IRA program to its employees.

As I mentioned in an earlier blog that details the proposal, there is a push for automatic enrollment so that employees will need to opt out of the program if they wish not to participate.  There also appears to be bi-partisan support for this new IRA plan proposal that would go into effect no later than January 1, 2012.

I believe the largest debate over this proposal will be on the investment option battlefield.  There is great support in the Obama Administration for an annuity product that will pay a specific income at retirement as an option.  However, there will be pressure from the mutual fund companies and brokerage firms to permit those programs to be options as well.  There was even discussion that the program would be run by the Federal government.

Being practical, there will be limited bi-partisan support for a single form of investment and for having the government administer the program.  The likely result will be a program that will be administered by the private sector under government regulation that permits the purchase of an annuity at the time of (“retirement”) but will allow initial investments into other types of vehicles.

For those in the small retirement plan and/or payroll business, you need to watch and participate in the formation of this legislation.  The opportunities for growing your businesses by helping those businesses affected with a solution is tremendous.  IRAs are already the largest pool of retirement assets and accountholders, this legislation will only increase the importance of the IRA to any financial institution’s growth strategy.

There is considerable talk about converting Traditional IRAs to Roth IRAs with the income restrictions on Conversions being lifted starting this year, 2010.  However, if you or your clients are in Wisconsin, you are out of luck.  See the following article:

http://gazettextra.com/news/2010/jan/14/ira-conversion-could-cost-end/

The Wall Street Journal recently wrote an article that outlines a common misconception about the tax consequences of converting a single IRA to a Roth.

Remember that all IRAs are taken into account when considering any tax implications of a conversion. As the article points out, one way around this is to roll IRA money back into a retirement plan at your employer (assuming the plan accepts rollovers) prior to the conversion. Doing this will lower your tax liability, but also significantly limit your future access to those funds in times of emergency or special need.

To read the full article, click here.

Just a quick post!

Check out this article posted on Benzinga about H&R Block settling an IRA lawsuit.

Keep in mind, it is important to clearly disclose fees in your IRA offering and offer a wide assortment of funds. Those funds should be selected with the intent of addressing the needs of your clients.

As most people know, effective for tax years 2010 and beyond, the income restrictions that limit who can convert a Traditional IRA to a Roth IRA will be lifted. Meaning regardless of income levels, anyone can convert a Traditional IRA to a Roth IRA.

With this new opportunity becoming available, I thought it appropriate to share answers to specific questions we are receiving from account holders.

Q. Are there any tax advantages to converting in 2010?

A. There is a special advantage for those that convert in 2010. This advantage only applies to conversions that take place in 2010.  For individuals that convert to a Roth IRA in 2010, they can elect to pay all of the applicable taxes either in 2010 or pay 50 percent of the tax owed in 2011 and the other 50 percent owed in 2012. If they elect to defer payment of the taxes, they will not be permitted to pay any conversion taxes with the 2010 tax filing and must use the 50/50 split method for paying taxes in 2011 and 2012.

Q. In order to take advantage of the Roth conversion rules, do I need to convert all of my Traditional IRA assets at one time?

A. No, you can convert as little or as much of your assets in a single IRA or in multiple Traditional IRAs (including SEP IRAs) each year.  Many individuals do this to minimize the additional tax burden in any one year.

Q. Do I need to liquidate the assets and repurchase them when I convert?

A. That depends on your IRA provider.  However, most IRA providers will do in-kind transfers of assets from a Traditional IRA to a Roth IRA.

Q. How do I determine the amount of income attributable to the conversion of an IRA that will be subject to Federal taxation?

A. As with taking a distribution from any Traditional IRA account, the income created by that event is calculated based on the total value of ALL your IRA accounts.  If your IRAs only include pre-tax or deductible contributions either made directly to all of your IRAs or as a result of a rollover(s) from a retirement plan, the calculation is easy.  In this case, all of the assets converted are considered income and are subject to Federal taxation.

If you have some after-tax or non-deductible contributions in your IRA, the following formula is used each time a distribution or conversion event occurs to determine the amount of the distribution or conversion that is excluded from income and therefore taxed:

Aggregate                                                                   Amount Excluded
Nondeductible               X    Distribution Amount  =   from Income
IRA Contributions/
Aggregate IRA Balance

For example, assume in 2011 you have $50,000 in spread across two IRA accounts ($10,000 in IRA 1 and $40,000 in IRA 2).  In IRA 1, $2,000 of that balance is attributable to a non-deductible contribution made to the IRA in 1995.  In IRA 2, all of the funds are a result of a rollover of pre-tax and employer contributions and earnings from a previous employer’s 401(k) plan.

In 2011, you want to convert the entirety of IRA 1 ($10,000). How much of that conversion can you exclude from income?

$2,000/        X       $10,000         =        $400
$50,000

When preparing your tax return after any IRA distribution or Roth Conversion, it is advisable to seek assistance from a tax professional.

Q. To avoid the Roth contribution income limitations after 2010, could I simply make a Traditional IRA contribution for me and perhaps my spouse and simply convert that contribution the next day and have little if any tax consequence?

A. The answer depends on whether or not you have other IRA accounts.  If you have no other Traditional IRA accounts, the answer is yes.  You can establish an account one day and convert it almost immediately.  However, if you have other IRA accounts, see the previous question to determine the potential income that will be subject to taxation at the time of conversion.

Q. Are there any age limitations on converting to a Roth IRA?

A. No, there are not age restrictions.  You can convert to a Roth IRA at any age.

Q. If I convert my Traditional IRA to a Roth IRA before I am age 59 ½, does the 10% penalty for early distribution apply.

A. No, there is no early distribution penalty in the case of a conversion to a Roth IRA, even though it is considered a taxable distribution.

Q. If the conversion of a Traditional IRA to a Roth IRA creates additional taxable income, couldn’t that amount place me in an even higher tax bracket?

A. Yes, the amount of the Roth conversion reported to you on a Form 1099R is applied to other income when determining your tax bracket.

If you are in the IRA business, you should utilized these new conversion rules to market existing clients and obtain new prospects.  If you are an account holder, you should give serious consideration to converting to a Roth IRA because with growing Federal budget deficits, the government may make future changes that could drastically change conversion and/or Roth IRA rules, including eliminating the ability to make future Roth IRA contributions or execute conversions.

I often profess that there are 3 types of IRA investors – Do-It-Yourselfers, Validators, and those that want a managed solution.  I now have come to believe each group has sub-sets and that one additional group exists – using the IRA to fund a business.

The do-it-yourselfers  typically are the same individuals that want brokerage account windows in their 401(k) plan.  These individuals want to invest in stocks and bonds and even real estate and look for IRA solutions that give them that flexibility.

Validators are those individuals that want to self-direct their own investments but want someone or some service to review or give guidance on the investments they select.  For validators, brokerage accounts are not the best option because of the lack of support.  The mutual fund marketplace is also not the best option because with over 15,000 mutual funds.  It is nearly impossible to self-select funds and then get software or an individual to validate those selections.  This group would like a smaller, selected group of funds where the provider may have suggested allocations or advice tools to help investors build allocations from that select group of funds.

The last group is comprised of individuals that realize they have a limited knowledge of the investments and either want an advisor or advisory tool that selects investments for them or want to select from model portfolios, target date funds or other managed account options that meet their risk tolerances.  Again, brokerage accounts and mutual fund supermarkets are not the solution.

As for those that want to utilize IRAs to fund a business, that is less of an investment philosophy than a methodology for accessing IRA assets without paying early distribution penalties.  I will address this strategy in a separate blog.

The vast majority of IRA investors in this country fall into the Validators or those wanting guidance/advice.  If brokerage firms and mutual fund supermarkets are not the best solutions for their IRA dollars, what solutions are?  While going directly to a mutual fund company can give limited choices and some guidance that approach is completely contrary to the open architecture philosophy (creating a menu of screened funds from multiple fund families – essentially, selecting the best performing funds from those companies) that has been touted in the 401(k) plans where most IRA investors first were exposed to managing retirement assets.

So, if mutual fund company offerings don’t adequately address this large investment sector, how can this issue be addressed?  I strongly believe that firms offering an IRA program to either capture IRA rollovers from retirement plans or to create IRA programs for those investing outside of a retirement plan need to simply create a slightly expanded multiple mutual fund offering that mirrors the type of Investment Policy decisions made by 401(k) plan sponsors.  If the firm offering the IRA is an advisory firm, in addition to screened funds, add model portfolios to the IRA offering.  If the firm is not an advisory firm, offer a broad mix of investments with some asset allocation tools, along with perhaps Target Date funds.

The key thing to remember is the majority of IRA assets come as a result of rollovers from 401(k) and other retirement plans.  People like to have tools, websites and investment offerings with which they are familiar and which are simple to understand. Don’t miss your opportunity to address these key sectors of the market.  Start an IRA program today with the above goals in mind.

By: Lowell M. Smith

President of Inspira

Of all the proposals regarding retirement planning being reviewed by the Obama administration, the Automatic IRA seems to be the go to choice. The proposal requires any employer who does not offer a retirement plan for its employees to offer a payroll deducted Individual Retirement Account (Automatic IRA).  As of today, there are several IRA plan options for small businesses such as the Simplified Employee Pension (SEP) Plan or a Savings Incentive Match Plan for Employees (SIMPLE IRA). The downside to these plans is the requirement that the employees fund all or a portion of the account. In addition, the SEP contributions are specifically voluntary by the employer.

The concept behind the Automatic IRA plan will be of little cost for the employers to establish; while the accounts will be self-funded by the employees participating in the program.  The result is an increase in retirement savings among the estimated 75 million American workers currently without access to a retirement plan sponsored by his/her employer.  While all American workers under the age of 70½ can make contributions to an IRA account now, the payroll deduction and potentially the use of automatic enrollment. Unless of course, the employee opts out of the plan, a default percentage of salary that will increase retirement savings will be put into the plan.  In addition, it is assumed that the amount that can be contributed to these Automatic IRAs will be greater than the $5,000 ($6,000 if you are age 50 or over) that can now be contributed to a Roth or Traditional IRA.

While I believe this type of plan will be extremely beneficial, there are concerns over the potential features.  One thought is that very small employers will be exempt; this makes sense if you are self-employed or employ only you and your spouse.  But, for this to be truly beneficial all employers with employees should be required to participate.

Another concern is the potential that the plan will be run by the Federal government and contributions will be made into “safe” investments specified by the government.  This would be a grave mistake, as the government is not equipped to record keep this type of plan. And I personally would have concerns about whether or not contributions would even be “funded;” or would this just be another tax such as Social Security.  The program should absolutely be regulated. However, it should be administered by the private sector through payroll companies and other financial institutions that are already involved in retirement plans and IRAs.

The biggest potential winners with this proposal, aside from the IRA accountholders, are the payroll companies.  However, most of them do not have IRA products or solutions. My suggestion to these companies is to create, or look to partner with firms, to offer this type of solution or risk being obsolete.

As I continue to follow this legislation I will continue to inform you of it’s potential.

By: Lowell M. Smith, Jr.

President, Inspira

I recently attended the Society of Professional Asset-Managers and Record Keepers (SPARK) conference and discovered many interesting statistics regarding Individual Retirement Accounts (IRAs). According to RG Wuelfing & Associates, IRA assets are estimated to be approximately $5.055 trillion at the end of 2010. What this means is that IRAs will account for approximately 35% of the $14.530 trillion retirement investment marketplace; which is $2.385 trillion more than is invested in 401(k) plans.

These statistics are not surprising considering the anticipated growth of IRAs; it is expected that IRAs will immensely outperform all other assets. However, what is surprising is how few IRA record keepers are actively looking to provide rollover services to the participants that they service and/or the advisors that sell their plans.

Most of these record keepers were pioneers and are concerned about fiduciary issues, are highly skilled professionals and understand the market place. When the Employee Retirement Income Security Act (ERISA) of 1974 passed, they began actuarial and retirement plan consulting firms. When 401(k) plans started in the mid-1980s, record keepers looked to provide those particular services to their clients. By the mid-1990s, they went to daily valuation recordkeeping to enhance the value proposition.

It was implied by Bob Wuelfing, President of SPARK, that firms need to get into the IRA business to compete in today’s marketplace.  I say, “IRAs are the new frontier.”

Lowell Smith

President of InspiraFS

Over the past few weeks, I’ve been talking with a number of retirement plan providers (401(k) record keepers, actuaries, financial advisors, etc.) and have gained additional insight into the IRA marketplace.  Nearly everyone I speak with understands the tremendous potential the IRA has to increases profitability, particularly the capturing or rollovers as participants leave employment or retire.  However, many of the individuals I speak with have more practical reasons for needing an IRA rollover solution, and those reasons surround two main issues – battling plan costs to the plan sponsors and finding lost participants.

In the arena of plan costs, if terminated employees keep balances in the former employers retirement plan it ever increases the participant count to a point where an employer, even one with fewer than 25 employees, can actually have more than 100 participants in the plan.  As a result, the employer will need to engage an auditing firm to complete a plan audit every year – adding thousands of dollars in extra cost.    Also, the longer former participants stay in a play, the more likely they are to become “lost participants” that have to be found according to DOL – again adding significant additional work and cost.  The answer is simple, amend the plan and force out these prior participants with balances less than $5,000 through the automatic rollover process and cash-out smaller balance participants (those with under $1,000).

Even with the force outs there are issues with lost participants, but these become exacerbated when a plan goes to terminate or is abandoned by an employer.  Again, providers are looking for firms like Inspira, Auto Rollover, Millennium Trust, and others to not only offer IRAs for the lost participants or terminated plan participants, but to do the search.

The point of this blog is to further emphasize the power of the IRA as a nimble investment vehicle to help solve plan sponsor cost issues while enhancing the value the plan provide gives that plan sponsor.

Lowell Smith

President of InspiraFS