IRAs: Know the rules on taking distributions

What are the rules associated with retirees taking money out of their retirement plan or IRA?

We are often so focused on the benefits of contributing to a retirement plan or individual retirement account (IRA) that we forget about eventually having to address the distribution phase. What many retirees often don’t realize is that the Internal Revenue Service not only limits the amount you can contribute to qualified retirement plans and IRAs while you are working, but it also tells how much you must withdraw when you’re retired. Under the rules for “required minimum distributions” (RMDs), you may have to take distributions before the end of the year, whether you want to or not.

First, know that distributions from qualified retirement plans and IRAs are taxed at ordinary income rates, reaching as high as 39.6% in 2013. In addition, you must pay a 10% penalty tax on distributions received prior to age 59½ years, unless a special exception applies (Internal Revenue Code section 72t). On the other hand, RMDs are not required for Roth IRAs.

Usually, you must begin taking RMDs no later than April

1 of the year following the year in which you reach age 70½ years. For example, if you are turning age 70½ this year, the first distribution must occur by April 1, 2014. But if you wait that long, then you will also have to take another distribution for the 2014 tax year by Dec. 31, 2014. To avoid the doubling up of payouts in 1 year, you must arrange to take your payout prior to April 1 of the year after you are turning age 70½. Once you pass 70½, you must continue annual distributions each year.

However, there is an exception to these rules if you still work on a full-time basis and you do not own 5% or more of your practice or other business entity. In this case, you are allowed to postpone RMDs until your actual retirement.

How much do you have to withdraw? The amount of the annual RMD is based on the IRS life expectancy tables for the participant and the value of the account on the last day of the previous calendar year. In other words, your RMD for the 2013 tax year depends on your balance as of Dec. 31, 2012, even though you’re taking out the funds almost a full year later. Your financial adviser or tax adviser can help you determine the amount of your specific required distributions. In addition, there are many websites that have RMD calculators so that you can do it on your own, if that is your preference.

If you fail to comply with these rules, the IRS may impose a harsh penalty equal to 50% of the amount that should have been withdrawn, or the difference between the required amount and a lesser amount actually withdrawn. The penalty is added to the regular income tax that is due on the RMD. To avoid any potential problems, be sure to take your distributions well in advance of the Dec. 31 deadline. Don’t wait until the last moment.

The key is to be proactive and plan accordingly. So often, the vast majority of time is spent on determining the best way to shelter income through various qualified retirement plans, and very little time is dedicated to the rules for taking the money out. Keep in mind that during your retirement years, you will have two separate pools of assets to draw from: qualified (retirement plans and IRAs) and non-qualified (personal investment portfolios). By utilizing distributions from both sources, you can create a retirement income stream that minimizes income taxation, avoids penalties, and maximizes the efficiencies within your overall coordinated financial plan.

Does it make sense to invest in international real estate investment trusts?

Real estate investment trusts (REITs) were introduced in the United States back in 1960. From an international standpoint, the success and growth of the U.S. REIT industry prompted a number of cities and countries throughout Europe and Asia to introduce legislation allowing for the adoption of REIT-like structures.

One of the greatest benefits of including international real estate in a portfolio is its low correlation with other major asset classes, such as small- and large-cap U.S. stocks and domestic bonds. It is important to keep in mind that, just like with domestic and international stocks and bonds, investing in publicly traded REITs, whether through direct ownership or a mutual fund, carries certain market risks, including the general level of real estate values, REIT dividend payouts, management skill, and broad stock market trends.UT