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IRA distributions

The ABCs of IRA Distributions

How to avoid unnecessary taxes and penalties

Not sure how you go about getting money out of an IRA in a way that benefits you the most? You're not alone. If you ask 10 experts about the rules, penalties, and tax consequences of IRA distributions, you might just get a variety of answers. And while we don’t have all the answers, we think everyone will agree with the these key concepts.

The challenge

Distribution rules for individually-owned IRAs differ from those of employer-sponsored plans. The rules also differ for the two types of IRAs - "traditional" and Roth.

Distribution rules are also governed by your age when you begin to take money out as well as the length of time you plan to do so. Understanding these rules can mean the difference between tax savings and a potential tax liability as high as 50 percent. To avoid costly mistakes consider the following guidelines when planning your retirement.

Getting your money out of a traditional IRA

With a traditional IRA, your contributions may be tax deductible, depending upon your income and participation in an employer-sponsored qualified plan. However, distributions, at the time they are taken, may be taxable as income.

Your age is the determining factor.

If you take money before age 59 1/2, you can be hit with a 10 percent IRS penalty on any taxable amounts in addition to income taxes at the ordinary rates. The full amount of your distributions is taxable if you could deduct all contributions at the time they were made; if only a portion of your contributions were deductible, that portion — plus all earnings — are taxable.

Fortunately, there are a number of exceptions in which penalty-free withdrawals can be made from your traditional IRA prior to age 59 1/2, though income taxes still apply.

  • By your beneficiaries, at your death or if you become disabled.
  • If the money is used to pay qualifying medical expenses (when they exceed 7.5 percent of your adjusted gross income).
  • If you are unemployed, to pay the costs of health insurance.
  • If the money is withdrawn to pay for "higher education" costs for yourself, your spouse, children, or grandchildren.
  • If you use the money (up to $10,000) for the first-time purchase of a home for yourself.
  • If you made an excess contribution, you can take out that amount on or before the due date of your federal income tax return.

Remember you must begin taking Required Minimum Distributions by April 1 in the year after you turn 70 ½ to avoid penalties.

Getting your money out of a Roth IRA

A Roth IRA is significantly different than a traditional IRA.

  • Contributions are not deductible. They are made with after-tax dollars.
  • Contributions (though not earnings) can be withdrawn at any time without income tax consequences.
  • Contributions can be made after age 70 1/2. With traditional plans, contributions are not allowed after this age.
  • Qualified distributions are completely income tax-free. Non-qualified withdrawals of earnings are subject to the 10 percent early withdrawal penalty, plus income tax.

To withdraw earnings without penalty from a Roth IRA, the funds must have remained in the IRA a minimum of five years AND at least one of the following criteria is met:

  • You are age 59 1/2 or older.
  • You are disabled.
  • It is made to your beneficiaries after death.
  • You use the money to purchase a first home; up to $10,000 lifetime.

Consult your tax advisor for more information regarding your specific situation

Contact New York Life and its financial professionals for your rollover and retirement related questions.