Taking IRA Distributions in 2012
Every IRA owner needs to consider IRA Distributions and changes in 2012, regardless of your age. The tax law and potential changes require everyone to take a hard look at their situation and consider moves to make in 2012 and beyond.
Anyone who was age 70½ or older in 2011 needs to take required minimum distributions in 2012.
If you turned age 70½ in 2011 and didn’t take your first RMD in 2011, you need to take it before April 1, 2012. You also need to take an RMD for 2012.
Anyone who was over age 70½ before 2011 should have taken the first RMD previously and must take an RMD each year thereafter, including 2012.
Strategies for Taking RMDs
The 2012 RMD must be taken by Dec. 31, 2012. The required amount is easy to compute. Start with the Dec. 31, 2011, balance of your IRA. When you have more than one IRA, total the ending balances of all the IRAs. The balances are required to be reported to you by the custodian or trustee in January.
Divide the balance by your life expectancy from the IRS tables. The result is your RMD for the year. Most people use Table III, available under the “Extras” tab on the members’ section of our web site and in IRS Publication 590 to find their life expectancy. A married IRA owner with a spouse more than 10 years younger uses a different table.
You can take the RMD in any pattern you want. Take it all in a lump sum at the beginning or end of the year. Schedule monthly distributions from with the custodian. Or take irregular distributions as you need the cash. The only rule is that your distributions by the end of Dec. 31 have to total at least the RMD amount.
When you own more than one IRA, you also have flexibility. You can take the RMD all from one IRA, equally from each of the IRAs, or in any other combination you want.
Remember that you don’t have to sell assets in order to take an RMD. You can have property distributed and continue to hold the property in a taxable account. You include in gross income the value of the property on the date of the distribution, and that is your tax basis for the property. The value on the date of distribution is the amount that counts toward your RMD.
Most mutual funds and brokers make this easy. If you don’t already have a taxable account with them, they’ll open one and transfer the shares or other property you designate to the account. You might also be able to transfer property from an IRA at one firm to a taxable account at another, depending on the property.
Emptying IRAs Early
Over the years I’ve encouraged all IRA owners to consider taking more out of their IRAs than required. You could take the money directly and deposit it in a taxable account (if you’re older than age 59½), or you could convert the traditional IRA to a Roth IRA.
There are several reasons to consider these steps.
Income tax rates could rise in the future, depending on how the election turns out in November. If tax rates are at their lows for some time, then it could make sense to pay income taxes on your IRA now and let the future investment returns accumulate in either a taxable account or a Roth IRA. You could end up with more after-tax money in the long term.
This also might be a good strategy when you personally are in a lower-than-usual tax bracket for 2012. Perhaps you are between jobs or business isn’t doing as well as usual. This could be a one-time opportunity to take turn adversity into an advantage if you have the savings to pay taxes on a conversion or early distribution.
The RMD rules of traditional IRAs are another reason to consider paying taxes now instead of later. As you get older, the RMDs get larger and larger. Many people find themselves being forced to take distributions and pay income taxes on money they don’t need to pay their expenses. This reduces their after-tax wealth and the amount that can be left to heirs. It also can trigger higher taxes on Social Security benefits, higher Medicare Part B premiums, and other adverse events.
When you have enough income or other assets to pay most of your living expenses and consider the IRA primarily a safety net or a legacy for loved ones, emptying the IRA early or converting it can be a good idea. You or your heirs will have more after-tax wealth than you would by keeping the traditional IRA intact.
A number of factors must be considered before deciding to empty an IRA early or convert: Your tax rate now compared to future tax rates; the number of years money will compound before you need to spend it; and the rate of return you’ll earn on the account are the main factors.
Extensive discussions on the decision are in the IRA Watch section of the Archive on the members’ web site and also in my book, The New Rules of Retirement. Carefully consider the options and decide if the move will increase your long-term after-tax wealth.
RW February 2012.
