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Ed Slott's Free IRA Update

June 2009

Volume 2, Number 6

In This Issue

-         Focus on - Penalties can Kill Your IRA

-         Question of the Month

-         News, Rulings and Other Updates

-         Retirement Planning Tip

-         Ed Slott's IRA Advisor - June Issue


















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June Focus: Penalties Can Kill Your IRA


Most IRA owners focus on the closing balance on their account statements to see whether their IRA had losses or gains. However, there are non-stock-market-related transactions which can result in significant losses to IRA assets and many of these are often overlooked. In this issue, we will focus on a few transactions that could potentially erode the balance and/or result in the loss of tax-deferred (tax-free in the case of a Roth IRA) benefits for your IRA.



  • Taking Early Distributions

Distributions that occur before you reach the age of 59 ½ will result in a 10% early distribution penalty (additional tax), unless an exception applies. This often seems like a non-issue for someone who is in need of the funds, but becomes important when it is time to pay the penalty. Remember that an early distribution of $10,000 would result in a penalty of $1,000. For an individual who does not have non-IRA funds to pay the penalty and any tax that may be owed, additional distributions might need to be made to cover those amounts. For more on this, see our May 2009 Issue.


  • Missing Your RMD Deadline

Individuals who are at least age 70 ½ during the year must take a required minimum distribution (RMD) from their traditional, SEP & SIMPLE IRAs, qualified plan accounts, 403(b) accounts and 457(b) accounts. The RMD can be deferred until retirement for qualified plan accounts, 403(b) accounts and 457(b) accounts, if the individual continues to work with the plan sponsor past age 70 ½, the individual is not a 5% owner, and the plan allows for the deferment. The RMD requirement also applies to beneficiaries of the aforementioned accounts as well as Roth IRA beneficiaries. Failure to take the full RMD by the deadline will result in an excess accumulation penalty of 50% of the shortfall being owed to the IRS.


Note: RMDs are waived for defined contribution plans and IRAs for 2009. For details on this provision, see the January 2009 issue of the IRA Advisor .


  • Making Contributions Over the Limit

The maximum contribution that can be made to an IRA is the lesser of 100% of the IRA owner's taxable compensation or $5,000 ($6,000 for individuals who are at least age 50 by the end of the year).* Individuals who make contributions in excess of this limit must remove the excess amount by their tax filing deadline, including applicable extensions. Failure to do so will result in a penalty of 6% of the excess amount being owed to the IRS for every year that it remains in the IRA.


* This figure applies to 2009 and may change for future years.


  • Prohibited Transactions in an IRA

If your IRA engages in any prohibited transaction, such as investing in collectibles, the balance- or a portion of it- being pledged as security for a loan, or if you take a loan from the IRA, it could jeopardize the qualified status of the IRA. In such cases the IRA is treated as if it was distributed to you on January 1 of the year in which the prohibited transaction occurred. You would be required to pay any tax that would be due on the distribution, plus an additional 10% early distribution penalty if you were under age 59 ½.


If you are unsure of the tax and penalty consequences of taking distributions from your IRA, you may want to contact an Ed Slott Elite IRA Advisor.


Explanations of the rules that govern IRAs are usually provided in Ed Slott's IRA Advisor Newsletter. If you are not already a subscriber and want to get an idea of the content of the newsletter, you can preview past issues before subscribing.


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Question of the Month

Question:  I maintain a SIMPLE IRA for my employees and two of them reached age 70 ½ last year. My CPA says that I can no longer make contributions to the SIMPLE on behalf of these employees; neither can they make salary deferral contributions because of their age. I decided to check with another CPA who disagrees with the position taken by my CPA. Who is correct?



Answer: The second response that you received is correct. There is no age limit on SIMPLE IRA contributions. As such, these employees must be allowed to participate in the SIMPLE and receive any contributions for which they are eligible. Failure to include them in the plan could result in some serious compliance issues for your company and may affect the qualified status of contributions made for other employees.



News, Rulings and Other Updates

In a recent court ruling that has left experts on series of substantially equal periodic payments (SOSEPPs) scratching their heads, the US Tax Court issued a summary opinion, in which they decided that an individual who is taking a SOSEPP can also take a distribution for qualified education expenses from the same account. One such expert is the IRS, which took this matter to court and lost.


The opinion of many SOSEPP experts is that Revenue Ruling 2002-62 and the other (very) limited official guidance available on SOSEPPs strongly suggests that no additional distributions can be taken from an IRA or other retirement account from which a SOSEPP is being made. As a result, financial professionals often encourage retirement account owners to take additional distributions from other accounts if needed. But for those who do not have other accounts from which to take distributions, this often presents a seemingly insurmountable dilemma. If the tax court's position is correct, this dilemma no longer exist for amounts needed for certain other 10% penalty exceptions.


Most SOSEPP experts caution that retirement account owners should not assume that this is a blanket rule. Not only because summary opinions cannot be cited as precedence or legal reference, but that there is no guarantee that this position would be consistent for other such cases. For a lively discussion on this matter and a link to the summary opinion, click here to see the discussion and join in if you can.



June's Retirement Planning Tip:  Still Fund Your 401(k)


Many 401(k) participants have either reduced the percentage of their contributions or completely terminated the funding of their 401(k) accounts because of consistent losses in market value for each statement period. We understand that this can be disheartening, but reducing or stopping your contributions may not be the best approach to take. The negative effects of failing to fund your 401(k) are many, ranging from not having a retirement nest egg, to missing out on the free money you would receive if your employer makes matching contributions.


Before you decide to discontinue funding your 401(k), talk to a financial advisor who is knowledgeable in the area of employer plans and discuss your options. Remember, the new money that you put in your 401(k) does not have to be immediately invested in mutual funds or other investments. Instead, it can remain in a money market or cash account offered by the plan until you and your financial advisor determine which of the plan's investment options is the best one for you. Furthermore, if you are eligible to make non-hardship in-service withdrawals; you may be able to rollover the amount to your IRA, and by doing so you would likely be able to choose from a broader range of investments.



Highlights from Ed Slott's IRA Advisor Newsletter - June 2009 Issue


Feature Article

NUA - Now is the Time!

  Net Unrealized Appreciation (NUA) Basics

  • NUA Example
  • Surprising NUA Opportunities
  • Start the NUA Process Early in the Year
  • Clients Who May Qualify for NUA
    • Ex-employees
    • Employees
    • Beneficiaries
  • Finding the Cost of the Shares
  • Time for a Tax Pro
  • Lump-Sum Distribution Details
  • NUA Follow-Up
  • Trading Down to Build Future NUA
  • Advisor Action Plan


Guest IRA Expert

Eric Wikstrom, CPA, CFP®

Integrated Wealth Strategies, LLC

Mercer Island, Washington


Dealing With the Unrelated Business Income Tax (UBIT)

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