Many IRA owners don’t realize that distributions don’t have to be in cash, whether they are required minimum distributions or other distributions. You can take a distribution in any form you want, as long as your IRA custodian will do the transaction.
Part of the reason for the confusion is contributions to IRAs must be in cash. You can’t transfer non-cash assets from a taxable account to an IRA. You have to liquidate the assets (and perhaps pay taxes on your gains) and contribute cash to the IRA. But the rules are different when it’s time to take distributions from an IRA.
Suppose you are required to take a minimum distribution from your IRA that exceeds your spending needs for the year. You like the allocation of your portfolio and don’t want to sell anything. You can set up a taxable account at either the IRA custodian or another financial institution, such as a broker. Direct the IRA custodian to transfer specific assets to your taxable account.
For example, when you own mutual funds in the IRA, you can set up a taxable account at the same fund firm. Have the firm transfer a specific number of shares of a mutual fund (or more than one fund) to the taxable account. Your investment allocation remains intact, and you’ve taken your required minimum distribution.
You also can have the property distributed directly to you. This is most likely to occur when the IRA holds assets other than publicly-traded securities or mutual funds. For example, if the IRA holds real estate the deed to the property can be transferred to your name and distributed to you. The IRA custodian might charge a fee for the transfer.
When property is distributed from an IRA either to a taxable account or directly to you, taxes still are due on the distribution. The value of the property on the date of the distribution is treated the same as a cash distribution. If you had $50,000 of mutual fund shares transferred from your traditional IRA to a taxable account, you took a $50,000 distribution from the IRA.
It doesn’t matter that at the end of the year the shares are worth some other amount, whether the value is closer to $40,000 or $60,000. You treat the transfer as a $50,000 distribution and should receive a Form 1099-R from the IRA custodian reporting this. If you had non-deductible contributions in the IRA, part of the distribution will be tax-free. Should the value of the property decline after the distribution, you could find yourself paying income taxes on a value that no longer exists, at least temporarily.
After property is distributed from an IRA, you have a tax basis in the property equal to the amount included in gross income. This keeps you from paying taxes twice on the same amount. When you sell the property, the gain or loss is the amount realized from the sale minus the basis. Any appreciation that occurs after the distribution is taxed as a capital gain. You need to keep a record of the value at the distribution to properly calculate future capital gains.
Property distributions can be an important option when your IRA holds illiquid or hard-to-sell assets. In the past we’ve explained how a true self-directed IRA can hold assets that are not publicly-traded, such as real estate, loans, and small business interests. Those details are in the IRA Watch section of the web site Archive. When it is time to take required minimum distributions, you don’t have to liquidate these investments. The property or partial ownership in it can be distributed to you. You’ll need cash from other sources to pay taxes on the distribution.
April 2010. RW
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