Early retirees may need alternative withdrawal strategies

Long-Term Care | Feb 24, 2016 | Hook Law Center

When withdrawing funds from individual retirement accounts, Roth IRAs and other such accounts, retirees may encounter inconveniences, taxes and penalties. However, proper planning may reduce or even eliminate such costs. There are techniques that retirees should use to withdraw funds from their tax-sheltered retirement accounts prior to reaching the age of 59 ½.

You can withdraw your contributions to Roth IRAs anytime for any reason without being subject to tax or penalty, irrespective of your age. The IRS permits holders of traditional IRAs to label withdrawals as “contributions” until all contributions have been resolved. Upon withdrawal of the contribution part of the account, you can then remove the earnings portion. But if you have not yet reached age 59 ½, the earnings could be taxed as income and you may have to pay a 10 percent penalty.

It could be an expensive error for the retiree to roll over a work-related retirement plan to an IRA if you need the funds before reaching age 59 ½. If you are age 55 or older and you have stopped working, you can withdraw money from your 401(k) or 403(b) account without being subject to the 10 percent penalty that would usually apply to withdrawals from an IRA owned by an individual under age 59 ½.

You can also remove funds from a 457 plan from a government or nonprofit employer without being subject to a ten percent penalty. If you withdraw funds from a work-related retirement plan, they will be taxed as ordinary income. But since early retirees will have less income, their tax bill will be smaller.

If you must withdraw funds from your IRA to pay for living expenses before reaching age 59½, you should determine whether you have any qualifying expenses that can be set against the IRA withdrawals to avoid the ten percent penalty. Such costs could include considerable out-of-pocket medical bills, higher education expenses or health insurance premiums if you are unemployed.

Furthermore, IRA holders under age 59 ½ can make withdrawals from the account without incurring a penalty if the withdrawals are similar in amount and comply with a certain schedule. These are referred to as substantially equal periodic payments (SEPP). Under the SEPP program, once the payments have started, they must continue for five years or until you attain the age of 59 ½, whichever is second. However, if the requisite amounts and timing of the SEPP accounts are not met exactly, all withdrawals may be subject to the ten percent penalty retroactively.

The elder law attorneys at Hook Law Center assist Virginia families with will preparation, trust & estate administration, guardianships and conservatorships, long-term care planning, special needs planning, veterans benefits, and more. To learn more, visit https://api.hooklaw.net/ or call 757-399-7506.

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