You’ve heard the warning: If something seems too good to be true, it probably is. I’d now like to present just such a scenario. You may decide if what I’m about to describe is believable.

Over the past several years I’ve discussed retirement programs, particularly individual retirement accounts (IRAs). Those of you familiar with me know of my bias favoring the tax-exempt Roth IRA, as well as my preference that sound, interest-bearing securities not subject to market vagaries belong in these accounts. I shall now expand on my prior analyses by carrying a specific Roth IRA investment to its logical (or perhaps illogical) conclusion.

Presume that you’re in your early 20s, your job enables you to invest $5,000 each year, and you aspire to retire comfortably at 65. In January 2008, shortly after your 25th birthday, you open a self-directed Roth IRA with a discount brokerage, selecting as its holdings certificates of deposit, treasury notes, and high grade corporate bonds. Thereafter, each January over the next forty years, you systematically add $5,000 to the account. If during that period you generate 7½% annually—a reasonably obtainable rate—you will by age 65, thanks to the magic of compound interest, possess $1.25 million in this account.

Let’s now look at the rules: “The pre-death required minimum distribution requirements that apply to qualified plans and traditional IRAs do not apply to Roth IRAs. Thus, owners of Roth IRAs are not required to take distributions by April 1 of the year following the calendar year in which they attain age 70½.” Consider the ramifications. In every year from 65 onward you may distribute to yourself, completely tax-free, the interest earned in the account ($93,750 at 7½%), while the principal balance remains untouched as it continues to earn even more tax-free interest. Somehow I don’t believe this is quite what Congress envisioned when they enacted the law.

A concluding thought:
If what I’ve just described is implemented by no more that a handful of persons, it will remain a potential bonanza for the astute few. However, if massive numbers of taxpayers avail themselves of this program, it could break the bank of the U.S. Treasury. Under that circumstance, laws would hurriedly be enacted to end Roth as we know it today.