Like many Americans, you probably started saving money for retirement early on in your working years to ensure that you are financially secure when you retire. As you now get close to retirement age, you need to carefully plan when and how to start retirement plan distributions. That requires you to understand the rules relating to distributions as well as the options for deciding how much to take out. To help you plan, the Beverly estate planning attorneys at DeBruyckere Law Offices explain what you need to know about retirement plan distribution rules.
IRS Retirement Plan Distribution Rules
When and how you take distributions from a retirement plan can directly impact how that money is taxed by the IRS. Therefore, knowing some basic retirement plan distribution rules is essential. According to the IRS, the following general rules apply:
- Required distributions. Unless you elect otherwise, benefits under a qualified plan must begin within 60 days after the close of the latest plan year in which you:
- turn 65 (or the plan’s normal retirement age, if earlier) OR
- complete 10 years of plan participation OR
- terminate service with the employer.
- Distributable events. The law permits a plan to distribute an account after certain events (distributable events). Different distributable events apply to different types of plans, and different types of contributions or accounts within those plans. The plan is not required to allow distributions for every possible distributable event; however, the plan document must clearly state when a distribution will be made.
Planning for Retirement Distributions
Unfortunately, a single, sure-fire formula for deciding when to begin distributions and how much to withdraw does not exist. Without knowing exactly how long you will live and what your cost of living will be throughout your retirement years, it is impossible to devise a foolproof distribution plan. There are, however, some common strategies that are used when it comes to planning for retirement plan distributions, including:
- The 4 percent rule. The 4 percent rule holds that withdrawing 4 percent from a retirement fund in the first year, followed by inflation-adjusted withdrawals every year after, should ensure money is available to sustain a 30-year retirement. While this can be a useful general rule, factors such as your life expectancy, current financial market, and your standard of living should be considered as well.
- Fixed percentage. The 4 percent rule is adjusted each year for inflation, meaning you will not always take out 4 percent. Another option is to take out a fixed percent each year that is not adjusted for inflation. The downside is that if the market isn’t doing well, you could be taking out more than you should.
- Fixed dollar. As the name implies, this involves taking out a specific amount each month or year. It can make budgeting easier but can also be problematic if the fund isn’t performing well.
- Income only. Taking distributions of dividends and gains only allows you to leave the principal intact, providing a financial safety net. This only works, however, if the principal earns enough for you to live on the income alone.
- Minimum mandatory distributions. Traditional 401(k) accounts and IRAs have required minimum distributions (RMDs) that can increase your taxable income. RMDs must begin at age 72 and failure to withdraw the designated amount could result in a hefty tax penalty. Converting these accounts to a Roth account can reduce or eliminate RMDs.
Contact a Beverly Estate Planning Attorney
For more information, please join us for an upcoming FREE seminar. If you have additional questions about retirement plan distribution rules, or how to incorporate retirement planning into your estate plan, contact a Beverly estate planning attorney at DeBruyckere Law Offices by calling (603) 894-4141 or (978) 969-0331 to schedule an appointment.
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