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 In This Update:
  • Q of the Month:
    Are IRA Distributions Not Taxable?
  • Key Focus:
    When Can I Take a Roth Distribution?
  • Ruling to Remember:
    Updating All IRA Beneficiary Forms

 Resources  Expert


?? Question of the Month: Are IRA Distributions Not Taxable?

Q: My sister-in-law claims that by taking less than $10,000 a year from her IRAs, she doesnít have to pay tax on the money. I am 74 years old and have paid tax on my IRAs over the last several years. Her other income is Social Security. Is that possible?

A: At age 70 1/2 there are required distributions from an IRA. Your sister-in-law should be sure that she is taking at least that minimum amount from her IRA each year. There is a 50% penalty on any shortfall of the required amount. Distributions from IRAs are generally subject to income tax, other than after-tax money and qualified distributions from Roth IRAs. Distributions from an IRA are added to all of your other income to determine the applicable tax rate that will apply. It is possible that an individualís total income could be low enough, after deductions, to avoid income taxes. She should check with her tax preparer to make sure she is handling the IRA distributions correctly.




Inside Ed Slott's IRA Advisor Newsletter

2010 Roth Conversion Tax is Due...What if Clients Canít Pay?

  • The Two-Year Tax Deal for 2010 Roth Conversions
  • The Tax Bill is Due, but Some Clients Canít Pay - What Now?
  • Undoing the Roth Conversion
  • Estimated Taxes for 2010 Roth Conversions
    • Adding 2011 Roth Conversions To The Tax Mix
  • Focus on the Long-Term Tax-Free Benefits
  • Options Available When Clients Canít Pay the Conversion Tax
    • Option #1 - Beg, Borrow or...
    • Option #2 - Take a Distribution from the Roth IRA
    • Option #3 - Try for a Private Letter Ruling
    • Option #4 - Set up a Payment Plan
    • Option #5 - Ask for an Offer in Compromise

IRS Payment Plan Update

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April Key Focus

When Can I Take a Roth Distribution? Itís About the Rules

You can take money out of your Roth IRA. Generally there is no income tax due on a distribution, but if you are under age 59 1/2, you may owe the 10% early distribution penalty. Hereís the way it works.

In order for all Roth distributions to be tax and penalty free, you must be at least 59 1/2 AND have established any Roth IRA 5 years ago OR the distribution is due to death, disability, or is for a first-time home purchase.

It is more complicated if you are under age 59 1/2. All of your Roth IRAs are treated as one big Roth IRA. You have to track three types of funds in your Roth IRAs: 1) your contributions; 2) your conversions; 3) your earnings.

When you take a Roth distribution, your contributions are the first funds distributed, even if they are in a different account from the one that makes the distribution. Contributions are distributed tax and penalty-free.

When your contributions are gone, then you start on your converted amounts; first in, first out. Each Roth conversion has its own 5-year holding period. If the funds are distributed before the 5 years are up for that conversion and you are still under age 59 1/2, then you have to pay the 10% penalty on the amount distributed. Now, if the funds were after-tax funds when they were converted, there is no penalty. This means that you could be under age 59 1/2 at the time of the distribution and not owe a penalty if the Roth conversion was done more than 5 years ago.

When your contributions and conversions are exhausted, then you are taking distributions of the earnings on the Roth account. The earnings will be taxable and subject to the 10% early distribution penalty since you are under age 59 1/2.

Those are the distribution rules in a nutshell. However, we do NOT recommend that you take funds from your Roth account to pay the income tax due on a Roth conversion unless you absolutely have no other way to pay the tax. You will be reducing the amount you have available in retirement and you are losing all of the tax-free compounded interest on what you withdraw. It could be the difference between living comfortably and having to make tough choices about where to cut back during retirement.

Visit The Slott Report ( for daily IRA, tax and retirement planning information, search our extensive 600-plus article library, bookmark the site and subscribe to our email news feed.

Ruling to Remember

Private Letter Ruling 201211034

ďFrankĒ had a will that established a trust for his wife ďSusan.Ē He named the trust as the beneficiary of the IRA, but he later revised his will to eliminate the trust entirely and leave his entire estate outright to Susan. Or so he thought. Frank did not update the IRA beneficiary designation form, which still listed the testamentary trust.

Big mistake.

At Frankís death, the beneficiary of his custodial account was deemed to be his estate. Why? Because the beneficiary form trumps all and it was not updated to avoid the estate and pass his assets to Susan as he intended.

As the surving spouse and sole beneficiary of Frankís estate, Susan requested a ruling to roll over the proceeds from his IRA to her IRA in a trustee-to-trustee transfer.

IRS ruled that Susan could either transfer the proceeds from her husbandís IRA by trustee-to-trustee transfer into an IRA set up in her own name or take a distribution of the IRAís proceeds and complete a rollover into an IRA set up and maintained in her name as long as the rollover satisfied the 60-day rollover rule.

If the beneficiary form had been updated after the will was changed, then the IRA would not have had to go through the estate to the wife, and she would not have had to pay the IRS $10,000 for the PLR plus a preparerís fee. Donít forget to check and update all beneficiary forms.

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