Question: Equation 3 6 analyzes the choice between a deductible IRA and
Equation 3.6 analyzes the choice between a deductible IRA and a Roth IRA for new contributions when the taxpayer wishes to contribute the maximum allowed. Equation 3.6 indicates that if the taxpayer expects his future tax rate to decline, the contribution choice depends on the relative magnitude of the taxpayer’s current and future tax rates t0 and tn, the holding period n, and the pretax rate of return expected R to be earned on plan assets. (Note also that Equation 3.6 assumes that any excess funds under the deductible IRA are invested in an SPDA.) Assume the taxpayer’s current tax rate t0 is .40. Complete the following spreadsheet, first assuming that R = 10%. Then repeat the spreadsheet for R = 5% and R = 15%.
Interpret the results of your analysis. How does the conversion decision vary as a function of the pretax rate of return, holding period, and relative magnitudes of tax rates?
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