Ask Money

Spousal IRA

Chris Farrell Apr 25, 2008

Question: I am a 30 yr old man with a 9 month old son and a stay at home mom to take care of. I have started contributing to a Roth IRA this year. I maxed out for 2007 and have contributed $3000 towards 2008. I plan to invest in low fee index funds and have invested in the Vanguard Emerging Market Index Fund and the Vanguard Balanced Index Fund. This should cover the whole world!

I have played it safe with my Roth IRA even though I consider myself more aggressive than others. I would like to trade stocks, hopefully keep them for more than a yr to escape the high taxes but in the current market situation there are times I feel like selling stocks that are not doing too well.

My question is: Can I open a Roth IRA for my wife even if she doesn’t work. If I can, can I actively trade stocks in that account but opening a Roth-IRA with TDAmeritrade or any other discount broker. Will it all be tax free? Wouldn’t it be a good strategy to avoid taxes if you want to actively trade? Pradeep, Chicago, IL.

Answer: Yes, assuming you file a joint tax return, your wife can open up a Roth-IRA in her name. She funds it with after-tax dollars for up to $5,000 in 2008 (the limit is $6,000 for those age 50 and above). The so-called “spousal” Roth IRA and traditional IRA is the one exception to the rule that you need earned income to contribute to an Individual Retirement Account. (Technically, there is no such thing as a spousal IRA, but the phrase is used as descriptive shorthand in the financial services business.) By the way, all the other Roth rules still apply, such as the compensation phase-outs. It doesn’t read as if that’s a problem for you and your wife this year. But for any couple that doesn’t qualify for a Roth, a traditional IRA funded with pre-tax dollars is always an option. There are no restrictions except the amount that can be contributed with a traditional spousal IRA. It’s a smart move for your wife to open a retirement account..

But we are going to part ways on trading stocks in the Roth IRA (or any IRA). To be sure, trading in the retirement account won’t trigger any tax consequences. But when saving for retirement the savvy strategy is to invest in a well-diversified portfolio with minimal trading and razor-thin fees. This approach substantially increases the odds of doing well over time. That’s why I like the portfolio you have in your Roth.

Now, if you want to test your stock-picking wits in the market by trading stocks, I’d do it in a taxable account not a retirement account. Yes, you’ll end up paying taxes on gains, but you’ll also minimize any tax hit with your losses since Uncle Sam underwrites your bets that go bad.

I would also strongly encourage your wife to manage her retirement account on her own. It’s a good idea for everyone to understand how to invest money in the markets.

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