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Mandated Withdrawal Can Shock Seniors

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By DAVID PITT

The Associated Press

Published: September 3, 2008

DES MOINES, Iowa - There's some sentiment that a government rule that forces retirees to withdraw money from their IRA and 401(k) accounts when they turn 70 1/2 may need to be changed. That's because people are living longer and need to keep as much of their retirement money for as long as possible, said several financial advisers and a leader of the Senate Finance Committee.

The required minimum distribution, or RMD, rules force tens of millions of retirees to take money out of their tax-deferred retirement accounts each year. The reason for the forced disbursement is simple - the government figures it has waited long enough for the taxes on that sheltered cash. The rule to force withdrawals, developed more than 20 years ago, also was intended to make sure that tax-deferred retirement accounts are used for their intended purpose and not by those who would accumulate money tax-free to pass on to heirs.

A persistent problem is that many seniors are caught off guard by the rules and end up paying a hefty penalty, of 50 percent of the amount that should be withdrawn, for failing to comply.

Bobby Brown, 78, a retired telephone worker in Fort Worth, Texas, said he and his wife, Priscilla, didn't want to take money out of their retirement accounts when their financial adviser told them they would have to.

"We had no intention of using the money itself, but the government says you have to take it out or pay a big penalty," he said. "I didn't need it. I figure why mess with a wheel if it's not broken."

Be Prepared For RMD

Brown, who represents retirees of the Communication Workers of America union on regional and national boards, said his financial adviser prepared him in advance for the distribution.

Now, he tells the union retirees he represents to be sure they're ready for the RMD.

According to the Investment Company Institute, a trade group, about $4.7 trillion was held in IRA accounts last year. Most of that amount, about 89 percent, was held in traditional IRAs that must comply with the minimum distribution rules.

The group also said 46.2 million Americans own IRAs, and six out of 10 households owning traditional IRAs that made withdrawals in 2006 did so just to satisfy the RMD requirement.

Here are some things to keep in mind:

The amount that an account holder is required to withdraw is based on the amount of savings in the tax-deferred account divided by the retiree's life expectancy, as estimated by the government. The details and tables can be found in IRS publication 590 at www.irs.gov/pub/irs-pdf/p590.pdf.

People who aren't actively managing their retirement savings may forget to take money out when they should and lose thousands of dollars to the government's penalty.

"These are some of the more complex tax rules in existence, and some custodians, and even some tax pros, may get the RMD wrong," said Jeremy Welther, a financial adviser in Morristown, N.J. "It's amazing how many people don't take their RMDs, sometimes for years."

A Burden On Retirees

The IRS says retirees are to be notified by their bank or other financial institution holding the retirement account of the required distribution.

Brian Breidenbach, a financial adviser in Louisville, Ky., views the required annual distribution as an additional burden the government places on retirees.

"The inevitability is there, that money in that IRA is eventually going to be paid out to them in some form of taxes, so I don't see why the creation of just having a way to try to speed that up," he said.

J. Mark Iwry, a senior fellow at the Brookings Institution and a former Treasury Department attorney, said he favors changes to the RMD rules.

"Exempting individuals whose account balances are below a specified threshold could spare millions of people from having to comply without compromising the main purpose of this provision," he said.

Attempts were made to establish a threshold amount in 1998 when a bipartisan bill emerged in the House to eliminate the required distribution from accounts under $300,000 and raise the compliance age to 75. The figure was later lowered to $100,000, but the bill failed to gain traction. Similar proposals were rolled out again as recently as 2005 but again failed to move forward.

Sen. Charles Grassley, R-Iowa, ranking member of the Senate Finance Committee, said the law should be simplified and he would consider pushing the age back.

"We haven't reviewed this in a long time, and it needs to be reviewed in light of the fact that people are living longer," he said.

ACCOUNT LAW TIPS

Here are some tips from Chad Terry, director of retirement solutions at Principal Financial Group, for making sure you don't miss minimum distributions from retirement accounts, which are required by the government at age 70 1/2 :

1. Set up an automatic payment. A financial adviser can set it up so that the annual RMD is calculated automatically and the taxes sent electronically to the IRS, so there's no chance of missing it and paying the high penalties.

2. Act as soon as you get your annual statement. Call the company or your financial adviser and set up a time for the distribution. Even if you work with an adviser, it is your responsibility to make sure the RMD is done properly. It's your money and will be your penalty to pay if it's not done right.

3. Consider consolidation. When it's appropriate for your circumstances, consolidate multiple IRAs and other funds. Multiple accounts means that you'll need to calculate the RMD for each. That means dealing with several administrators. It's much easier to deal with the funds once consolidated.

4. Ask questions. Often people who inherit a retirement account may not realize the rules for when they must distribute some of the money to pay some of the taxes.

"They need to understand their options and that there are going to be requirements for taking some of the money out. You can't defer it indefinitely," Terry said.

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