PENALTY-FREE IRA WITHDRAWALS

Who says you have to wait until you are 59 ½ to make withdrawals from your IRA? More and more people are finding themselves retiring earlier than traditional thinking and need their IRA or IRA rollovers to support their lifestyle. Years ago, many folks relied on some sort of fixed income as their primary income source for their retirement years. These sources included social security or a pension from a long time employer. Well, social security payments don’t start until age 62 or later, and traditional pension plans are going the way of the dinosaurs and the Oldsmobile. So if you are lucky enough to retire early and the bulk of your assets are in an IRA, how do you generate an income stream?

As most of us are aware, once you have reached age 59 ½, you can make withdrawals from your IRA’s without any penalties. Any amount withdrawn is generally subject to federal income tax. The federal income tax is a progressive tax, so the larger the amount withdrawn, the greater the overall percentage of tax due becomes.

Withdrawals made prior to reaching age 59 ½ are generally assessed an additional 10% penalty on top of the usual income tax due. There are however, a few exceptions that allow you to make withdrawals from your IRA prior to reaching age 59 ½ without being penalized. Yes you can access the money in your IRA, but you must meet certain conditions and be very careful to stay within the boundaries set by the IRS to avoid the 10% penalty.

For those who have not yet made it to age 59 ½ and need an income stream, a Series of Substantially Equal Distributions (also known as Regulation 72t Distributions) may be the ticket. A combination of remaining life expectancy, current interest rates and account value are used to develop a series of withdrawals that a reasonable person would expect to last a lifetime. Once a series of substantially equal payments begin, they must continue for the longer of a full five years or until you reach age 59 ½. The penalty for failing to complete, or for altering the series of distributions is 10% of all distributions to date. If you begin the series at age 52, you cannot alter the pattern until you reach 59 ½. If you begin the series at age 58, they must continue until you are 63 to avoid the 10% penalty. This is why you should carefully consider all of your alternatives before beginning a series of substantially equal distributions.

There is one way to match your series of substantially equal payments to your income needs. The distribution calculation can be made on any or all of your IRAs. Therefore, you can split your large IRA or IRA rollover into smaller ones, matching the IRA balance to the distribution calculation that meets your needs. By splitting the IRA, you have created the flexibility to make other needed distributions from your second IRA once you turn 59 ½.

Another exception to the pre 59 ½ ten percent penalty is distribution due to death of the IRA owner. If you are the non-spouse beneficiary of an IRA, amounts you distribute from the inherited IRA are not subjected to early-distribution penalties. Spousal beneficiaries have two options. The first option is to complete a spousal rollover. The IRA now becomes an IRA owned by the surviving spouse. The surviving spouse now treats this IRA as there own, with all of the same distribution rules. A spousal rollover may not be the best option if the surviving spouse is not yet 59 1/2 and needs income from the IRA. Under this scenario, the surviving spouse would have to begin a series of substantially equal payments. The other option would be to leave the IRA in the name of the deceased spouse. This is known as a beneficiary IRA. As the beneficiary of this IRA, the surviving spouse must take a minimum amount annually, but can take any amount above the minimum without a penalty.

There are other less common exceptions to the pre 59 ½ withdrawal penalties. There are exceptions for withdrawals for higher education expenses, medical expenses, disability, public safety employees, first-time home buyers, IRS tax levies, active duty military reservists, and qualified domestic relations orders due to divorce.

Yes you can make withdrawals from your IRA before you reach age 59 ½. The penalties for failing to follow the proper procedures are severe, so if you or anyone you know needs to tap into their IRA early, be sure to contact your consultant at Bill Few Associates first. The financial consultants at Bill Few Associates have the knowledge and experience to help you get the maximum benefit from your IRA.