Retirees Should Think Strategically About One-Year Relief on MRD
You, family members, and others you know may be affected by the
Worker, Retiree, and Employer Recovery Act of 2008, which was enacted by Congress on December 23, 2008. For both economic and tax reasons, most retirees will benefit from not drawing a taxable distribution from their retirement plans during 2009. However, in some cases it’s not the best decision.
“It’s important to strategize when deciding how this waiver applies to you,” urges Andy Biebl, tax principal with LarsonAllen. “If you take a retirement plan distribution, you would have taxable income, unless you reinvest it back in the retirement plan under the 60-day rollover rule."
Terms of the relief act
In recognition of the sharp decline in most investment portfolios and the unstable economy, Congress enacted a one-year waiver of the mandate forcing retirees to withdraw from their individual retirement accounts (IRAs) and other qualified retirement plans. Here are the basics about the 2009 waiver of minimum required distributions (MRDs).
Who qualifies?
- For 2009 only, those age 70 ½ and over who normally must take a minimum withdrawal from their retirement plans are exempt from this mandate. In 2010 and after, the normal distribution rules will apply again. There is no “catch-up” requirement on the omitted 2009 withdrawal.
- It applies whether the individual’s account is in an IRA or another qualified retirement plan, such as a 401(k) or 403(b), or other employer-sponsored plan. (The IRA is the most common.)
- It also applies to those who have inherited a decedent’s IRA and are required to take annual distributions. The waiver applies whether the beneficiary is drawing under a lifetime payout or is subject to the post-death five-year payout rule. If using the five-year distribution deadline, the beneficiary simply ignores 2009, and adds one more year to the five-year period.
Who does not qualify?
- The only retirees required to take a distribution in 2009 are those who attained age 70 ½ during 2008 and elected to defer their first distribution to April 1, 2009. The deferred amount represents a 2008 required distribution, and is not affected by the legislation.
To learn more about these rules, see the
IRS guidance.
Tax strategies for retirees
The general rule: don’t withdraw
Most retirees will benefit from not drawing a taxable distribution from their retirement plans during 2009. There are two aspects: the economics and the tax implications. For many, their retirement plan is invested in stocks, bonds, or mutual funds that have declined significantly in value. Selling in an economic downturn is generally unwise, as it locks in the devaluation that may otherwise only be temporary.
The other aspect is tax savings, which arises from sidestepping the taxable income from the normal retirement plan distribution. A further benefit may be having a smaller portion of Social Security benefits reportable as income. For many retirees, particularly those in the $25,000–$50,000 income range, Social Security benefits become increasingly taxable as other income increases; with less IRA income, it is likely there will also be less taxability of Social Security benefits. For many, the anticipated savings will be great enough to allow reduced quarterly estimated tax payments during 2009.
Lower income? Withdrawal may be beneficial
In some cases, it will be tax efficient to add income in the form of a voluntary taxable IRA withdrawal. If a retiree has large medical costs or other tax return expenses, those deductions might be wasted if not offset with some additional retirement plan withdrawals.
Having income to offset those 2009 tax return deductions can be important, as the deductions do not carry forward to future years. On the other hand, the IRA income is simply being deferred and ultimately over the years ahead will need to be withdrawn and taxed, whether by the original IRA owner or by heirs. In these situations, it is smarter to bring some of that IRA income through the tax return now at low or no taxation.
Need cash? Consider alternatives
In some cases, retirees need to supplement their household accounts with extra funds. The annual IRA distribution may have served this purpose in prior years. But before taking a voluntary IRA withdrawal to help out the cash flow, consider whether you have other after-tax funds or investments that could be tapped. For the reasons noted above, avoiding taxable IRA withdrawals can produce significant tax savings. Look to bank CDs, money market funds, or other non-deflated, non-IRA accounts if extra cash is needed during 2009.
Higher income? Continue charitable fund transfers
Higher net worth individuals should consider continuing to use the strategy of directly transferring IRA funds to charity. The tax provision that annually allows each post-age 70 ½ IRA owner to move up to $100,000 directly to charities without taxation is still applicable during 2009. Higher net worth individuals who face both a strong income tax rate on their IRA accounts, as well as the eventual 45 percent federal estate tax rate, should use their untaxed retirement plan funds for meeting their charitable objectives.
Next steps and how we can help
After a decision is made, contact your IRA trustee to assure that it does not make a distribution contrary to your objectives.
If you are uncertain, we can assist in determining the proper approach for your situation. If you have any questions about these strategies, contact us.