Year-End Tips For Your Retirement Plan

By Denise Appleby AAA

Failure to manage your retirement account according to regulatory requirements could cause you to miss financial opportunities or owe the IRS penalties. In this article, we remind you of some transactions that you must complete by Dec. 31 - namely required minimum distributions (RMD) and Roth conversions - to avoid certain penalties or to take advantage of certain benefits for your retirement assets.

Required Minimum Distributions
Retirement Account Owners
If you are at least age 70 1/2 by Dec. 31, you must begin taking RMDs from your Traditional, SEP and SIMPLE IRAs on an annual basis. Generally, RMD amounts must be withdrawn from your IRA by Dec. 31 of each year.

However, if the current year is the one in which you reach age 70 1/2, you are allowed to defer distributing this year's RMD until April 1 of next year. Bear in mind that if you do defer your RMD, you must distribute two RMD amounts in the next year, i.e. the RMD for the year that just ended and the RMD for next year. Since RMD amounts are usually taxable, the two distributions in one year could put you in a higher tax bracket.

If you are a participant in a qualified plan and you are still employed, you may defer starting your RMD until after you retire, providing this option is allowed under the qualified plan. Check with your employer to be sure.
Penalty for Failing to Meet RMD Deadline
If you fail to withdraw your RMD by the applicable deadline, you will owe the IRS a penalty of 50% of the shortfall. This is referred to as an excess-accumulation penalty.

You can ensure that your RMD will be satisfied each year by arranging automatic distributions from your retirement account. Distributions could occur at pre-determined intervals, such as monthly, quarterly or annually. Check with your IRA custodian or plan administrator to determine if they offer this service.

Your Custodian Will Calculate Your IRA RMD

In January of each year, your IRA custodian is required to give you a reminder that your RMD is due. The reminder should include a calculation of the RMD amount, or an offer to provide the calculation upon your request.

Retirement Account Beneficiaries
If you are the beneficiary of a retirement account, you may need to withdraw beneficiary RMD amounts by Dec. 31. This usually applies if you are subject to the life expectancy option. Like the RMD rules for retirement account owners, the rules for beneficiaries impose a penalty of 50% of the shortfall if the RMD amount is not distributed by the applicable deadline.

Penalty May Be Waived by Switching to the Five-Year Option
If the retirement account owner died before the required beginning date (RBD), the beneficiary may be required to distribute the assets within five years or over his or her life expectancy. A beneficiary who is subject to the life expectancy option but failed to withdraw RMD amounts by the applicable deadline may receive an automatic waiver of the penalty by withdrawing the total balance of the inherited account by Dec. 31 of the fifth year that follows the year the retirement account owner died (the five-year rule). Before choosing to switch to the five-year rule, the beneficiary should consult with his/her financial advisor to determine whether the switch is a good financial decision.

Establishing Separate Accounts
Generally, when there are multiple beneficiaries of a retirement account, all the beneficiaries are required to use the life expectancy of the oldest beneficiary to calculate post-death RMD amounts. However, if the assets are split into separate accounts by Dec. 31 of the year following the year the retirement account owner died, each beneficiary is allowed to use his or her own life expectancy to calculate their RMD amounts. This can be favorable for younger beneficiaries, as their RMD amounts will be lower, thereby allowing them to leave larger balances in the accounts to accrue tax-deferred earnings (or tax-free earnings if in Roth IRAs). For example, if you are one of multiple beneficiaries who inherited a retirement account in 2010, you would have had until Dec. 31. 2011, to establish separate accounting.

Roth IRA Conversions
Roth IRA conversions for any year must be completed by Dec. 31 of that same year. If the conversion is being accomplished by means of a distribution from the Traditional, SEP or SIMPLE IRA and a rollover to a Roth IRA within 60 days, the distribution must occur by Dec. 31 of that same year. The rollover side of the transaction may be completed anytime within the 60-day period, even if it occurs during the following year. If you convert your IRA to a Roth IRA by means of an indirect conversion within the 60-day period, make sure your Roth IRA custodian deposits the amount as a "Roth conversion" and not as a rollover. This will ensure that the transaction is accurately reported to the IRS.

The Bottom Line
In anticipation of increased processing volume, some financial institutions implement deadlines for submitting requests every tax year. Check with your IRA custodian or plan administrator to determine whether they have implemented deadlines, and make sure your requests are submitted on time. If you have already submitted your requests, check to ensure they were received and processed. Should you miss year-end deadlines, talk to your tax professional, who should be able to assist you with the procedures for paying penalties to the IRS and/or requesting waiver of penalties.

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