Ray Martin for MoneyWatch writes: Earlier this week, I wrote about IRA required minimum distributions (Below) and the rules people must follow for taking distributions when they are older and have money in retirement accounts.
These requirements specify when the distributions must commence, the payout period required, and the rate of distribution. These rules affect both lifetime and post-death distributions. The minimum amount that must be distributed each year is calculated by using a factor from the Uniform Lifetime Table which is specified in IRS Publication 590.
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Generally, individuals who turn age 70 1/2 must commence distributions from their IRAs no later than April 1st of the following the year.
For example, if in 2013 you turned age 70 and a half, you would need to take your first minimum distribution from your IRA by April 1st 2014. Since these requirements apply to traditional and rollover IRAs (but do NOT apply to Roth IRAs), the amounts distributed are generally reported to the individual on form 1099 R and are taxable as income.
Receiving these distributions may create additional taxable income which often triggers other tax problems, such as causing more of your Social Security income to be taxable or the loss of itemized deductions due to phase-outs tied to your adjusted gross income.
But there are a few strategies people should consider to minimize the tax problems these required distributions can create, such as:
Take first required distribution early: Even if, as in the example above, you turn 70 1/2 in 2013 and can wait until April 1st of the following year to take your first distribution, it might be wise to take the first distribution in 2013 instead. The reason is that if you wait until 2014 you will also be required to take that year's distribution before year-end, causing you to take two distributions. Doing this can boost your taxable income and exacerbate the tax owed on Social Security and the loss of itemized deductions. Check with your tax or financial advisor to see which tax year is best for you to take the first required distribution.
Roll IRA into 401(k): People 70 and above who continue to work for an employer who sponsors a 401(k) or other retirement plan are not required to take taxable withdrawals from their retirement plans until they retire. To avoid taking required distributions from their IRAs at age 70, individuals who plan to continue working should consider rolling over their IRA into their employer's retirement plan before their 70th birthday. Doing this delays the requirement to take distributions from the IRA funds that are transferred into the 401(k) or other similar type of plan. This is especially advantageous when the individual does not need the IRA distributions for income and is in a higher tax bracket.
Tax Free IRA Distributions to Charity: IRA owners age 70 1/2 are allowed to distribute up to $100,000 from their IRAs tax free as long as it is sent directly to a charitable organization. This was also retroactively restored for 2012 and was extended again through 2013. For higher income earners who make donations to charity, this makes more sense than taking a required distribution from your IRA that is taxable as income and then donating cash to a charity and claiming an itemized deduction. The reason is that some of their itemized deductions will be lost because of the phase out of deductions due to higher adjusted gross income. But the IRA distribution to a charity would be tax free.
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When IRA distributions are required
People who own retirement accounts and are age 70 and older need to know that their retirement accounts are subject to special minimum distribution requirements. The Internal Revenue Code prescribes the requirements individuals must follow in regards to taking payments from their accounts in retirement plans and traditional, deductible individual retirement accounts (IRAs). Amounts owned in Roth type IRAs are not subject to these rules.
These requirements specify when the distributions must commence, the payout period required, and the rate of distribution. These rules affect both lifetime and post-death distributions.
Generally, individuals must commence distributions from their IRAs no later than April 1st of the year following the year they turn age 70 1/2.
The minimum amount that must be distributed each year is calculated by using a factor from the Uniform Lifetime Table which is specified in IRS Publication 590.
Generally the account value as of the most recent year-end is divided by the factor from the table that coincides with the current age of the individual. For example, the factor for individuals age 70 is 27.4. So, if you are age 70 in 2013, and have an IRA that had a value of $100,000 on December 31st 2012, the minimum amount you must withdraw from the IRA as your first annual required distribution would be $3,650.
These rules for accounts held in an employer's retirement plan are a little different. Folks with retirement plan accounts, such as 401(k) or 403(b) accounts, who are not a five percent owners of the business that maintains the plan (a "five percent owner"), can start receiving distributions no later than April 1st following the year in which he attains the age 70 1/2 OR retires, whichever is LATER. This date is referred to as the required beginning date, or RBD. This special rule allows folks who continue to work to put off distributions from their employers retirement plans.
The first time that the minimum distribution is required is known as the first distribution calendar year, and must be made by April 1st of the year following the year the participant attains the age of 70 1/2. Subsequent distributions must be made by December 31 of each calendar year.
The RBD for traditional, deductible IRAs (not Roth IRAs) and 5 percent owners participating in an employer's retirement plan is April 1st following the year in which someone attains the age 70 1/2, even if the person has not yet retired.
Financial firms who serve as IRA trustees, custodians, and issuers are required to report to the IRS annually the amount of the minimum required distribution for the year it is required. So don't think you can fly under the radar, not take a distribution and have it go unnoticed by the IRS. If you do not follow these requirements it can cost you; failure to comply with the mandatory distribution amount and date requirements may result in the imposition of a hefty 50-percent excise tax on late or insufficient distributions.
If you have multiple IRAs, a minimum required distribution must be calculated separately for each IRA. However, these amounts may then be totaled and the total distribution taken from any one or more of the IRAs.
If you have a more than one account in an employer's retirement plan, you must calculate and withdraw a minimum required distribution from each plan. Aggregation is not permitted
Distributions from IRAs may not be aggregated with distributions from 401(k) and 403(b) accounts. Also, amounts in IRAs that an individual holds as beneficiary of the same decedent may be aggregated, but such amounts may not be aggregated with amounts held in IRAs that the individual holds as the IRA owner or beneficiary of another decedent.
Check back later this week when I'll write about a few smart move people can make to plan for these required distributions.
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