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When to Take Distributions?

Withdrawals from IRAs and 401(k) accounts prior to age 59½ generally will be subject to both income tax – at ordinary income rates – and a 10% penalty.  After age 59½, the penalty no longer applies, although income tax will still be owed (except for qualified withdrawals from Roth IRAs).  At age 70½, required minimum distributions must begin from traditional IRAs and most 401(k) accounts.  Failure to take required withdrawals can result in a 50% penalty.  While many people postpone withdrawals as long as possible to avoid the income tax, there may be instances where taking a little now can avoid taking a lot later.

Taking withdrawals prior to age 70½ doesn’t mean that you have to spend the money.  The distribution can be invested in a brokerage account, where it can continue to grow.  If and when assets are sold in the brokerage account, there may be favorably taxed capital gains on any growth (generally 15% or 20%, although taxpayers in the 10% and 15% income tax brackets will pay zero capital gains tax).  Assets remaining in the brokerage account at death receive a stepped-up basis, allowing those who inherit to sell with no capital gains tax.  An IRA or 401(k), on the other hand, is subject to income tax when withdrawals are made after the owner’s death.

If you’re already over age 70½ and subject to required minimum distributions, ask your financial adviser whether you should make your gifts to charity directly from your IRA this year.  Although the law allowing tax-free distributions up to $100,000 to charity expired at the end of 2013, it may be renewed prior to year’s end.


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