Answers to The 70 1/2 Quiz!

Yesterday we tested your knowledge of the tax laws surrounding Required Minimum Distributions…  Let’s see how you did! 

  • 1 D: April 1, after the year that you turn 70 1/2. For example, if you turn 70 1/2. in the year 2005, the required beginning date would be April 1, 2006.
  • 2 Usually not.Let me explain. The year that you turn age 70 ? is often referred to as your required beginning year. You must take out a distribution for this year, but the government says that you have until April 1 of the following year before you need to actually take the money out.. Taking your beginning year distribution in the following year does not relieve you of the obligation to take a required distribution in that year, however. Thus, by waiting you will have to take two distributions in the following year-a delayed distribution from the beginning year and another for the current year!Why is this bad? Let us assume that your minimum distribution for the year 2005 was $15,000 and that you wait until March 31, 2006 to actually take out this amount. The $15,000 is treated as a distribution for the 2006 tax year.However, you also must take a minimum distribution for the year 2006, for which the deadline is December 31, 2006. If we assume that your minimum distribution for the year 2006 is $18,000, then your total distribution would be $33,000 in one calendar year! This might push you up into a higher tax bracket for 2006. Thus, in most cases it is best to take your minimum distribution during the year that you turn age 70 ?, rather than waiting until April 1 of the following year. It is best to prepare a tax projection in order to determine which way is best for you, depending on your circumstances.
  • 3 C: A 50% penalty. For example, if your minimum distribution was $20,000 and you only took out $8,000, then the difference would be $12,000. The penalty would be 50% of $12,000, which equals $6,000! Talk about a penalty!
  • 4 E: You can name almost anything or anyone. For example, you can name your spouse, children, grandchildren, a trust, a charity, your estate, or even your dog!
  • 5 A: YES! Under prior law, if you designated a charity as a partial beneficiary, this would prohibit your spouse from rolling over the rest of the proceeds or any of the other beneficiaries from electing to take IRA distributions over their lifetime. However, under the new laws, the spouse would have the right to roll it over into her IRA even though the charity was one of the primary beneficiaries, as long as the charity took out its distributions.
  • 6 No.?The final regulations no longer take the beneficiary into consideration.! It makes no difference even if there is no beneficiary because the individual would still take out a minimum distribution based upon the new table. There is an exception, of course, if a spouse is the primary beneficiary and he or she is more than 10 years younger than the IRA owner. In such a case you can use a different table that has longer life expectancies. However, in this example, this is not an issue.
  • 7 Yes!?If the spouse is the primary beneficiary of the living trust and the trust is the primary beneficiary of the IRA, and the other conditions listed below are also satisfied, then the IRS allows you to “look through” the trust and treat the spouse as being the primary beneficiary of the IRA. The spouse then has the right to roll it over into his or her own IRA.The required conditions are as follows:?
    1. The beneficiary designation must be valid under applicable state law.
    2. It must be irrevocable or become irrevocable at your death. Revocable trusts become irrevocable when you pass away and therefore a revocable trust can now be the beneficiary.
    3. All beneficiaries of the trust must be individuals.
    4. The beneficiaries must be identifiable from the trust document.
    5. A copy of the trust or trust certification that identifies the beneficiaries in any subsequent revisions must be given to the plan administrator no later than December 31st of the year after the?person passes away.
  • 8 D:The child would have the right to use any of these options; however, the best choice in most cases would be to take the distributions over his or her lifetime. The election must be made no later than December 31 of the year following the year of death. This is usually by far the best option for most non-spouse beneficiaries because it permits the maximum deferral for taxpayers who do not really need the money, while providing an option to receive the full amount in one year or over a five-year period if desired…Unfortunately, many IRA custodians default to taking out the distribution over a shorter period of time unless an election is made to extend it. Many beneficiaries (and their advisors!) are not aware of this rule and forget to make any election, and therefore are subject to the default provisions that the IRA custodian has. It is extremely important to review your custodian’s language in order to determine what options that they allow after you die.
  • 9 E: It doesn’t matter anymore! There used to be a number of factors to take into consideration before making your choice on calculating your Required Minimum Distribution such as selecting life expectancy, the recalculation method, single vs. joint, hybrid, term certain, etc. There is now one uniform table that most people will use. This table generally assumes that the beneficiary is 10 years younger than the IRA owner. The only exception is a situation in which the beneficiary is a surviving spouse who is more than 10 years younger than the IRA owner. Under the facts of this question, the spouse is 67 years old. Although this is only three years younger than the IRA owner, you can still calculate your minimum distribution assuming he or she is 10 years younger.
  • 10 C:?You might be depleting your IRA principal, but the IRS does not require this. The IRS merely requires that you take out a minimum distribution based on the new table and whether IRA principal decreases in a given year depends on whether the required distribution exceeds the growth in asset value for that year.For example, let us assume that your spouse is your primary beneficiary and both of you are 70 years old. According to the IRS tables, you have a life expectancy of 26.2 years. Therefore, if you have $100,000 in your IRA at the end of the prior year, you would have to take a minimum distribution of $3,817, which is about 4% of the IRA balance. If your investments inside of your IRA earn more than 4% , then your IRA will actually grow! The following chart illustrates what happens to your IRA balance if IRA investments earned a 10% return.

    IRA beginning balance:?$100,000

    Earnings during year:?10,000

    Less required minimum distribution -3,817

    Ending IRA Balance?$106,183

    Obviously, if your minimum distribution is greater than the earnings on your IRA, however, then you will start depleting your principal.