A Traditional (pre-tax) IRA owner may withdraw funds at will. The amount withdrawn is subject to ordinary income tax. If the owner is younger than 59.5, an additional tax, equal to 10 percent of the amount withdrawn, is also levied.

Example: Bob, age 50, withdraws $20,000 from his IRA. His ordinary income tax will be $3,000. He also must pay a penalty tax of $2,000. His total tax is $5,000. So he nets $15,000 on his pre-age 59.5 withdrawal of $20,000. This is not the way funds, dedicated for retirement, should be managed.

With that said, there are a handful of situations when IRA withdrawals are not subject to the 10-percent tax, even when the IRA owner is younger than 59.5. They are:

  1. You have unreimbursed medical expenses that are more than 7.5 percent of your adjusted gross income.
  2. The distributions aren't more than the cost of your medical insurance due to a period of unemployment.
  3. You are totally and permanently disabled.
  4. You are the beneficiary of a deceased IRA owner.
  5. You are receiving distributions in the form of an annuity.
  6. The distributions aren't more than your qualified higher-education expenses.
  7. You use the distributions to buy, build, or rebuild a first home.
  8. The distribution is due to an IRS levy of the qualified plan.
  9. The distribution is a qualified reservist distribution.
  10. The distribution is a qualified birth or adoption distribution.

Are you taking full advantage of the Deferred Compensation 457(b) and 401(k) Plans of the City of New York? The maximum limit for each plan will continue to be $19,500 for 2021. If you cannot afford to contribute the maximum to each plan, contribute up to $19,500 to the 457(b) because all withdrawals prior to age 59.5 are exempt from the 10-percent penalty tax. Once you have contributed $19,500, contribute all you can to the 401(k) plan.

The city is one of just a handful of state and local governments in the nation that offer their workers a 401(k) plan. Nearly 100 percent of all public-sector employers offering a 457(b) plan do not  offer a 401(k). Why? The provision of the Internal Revenue Code authorizing state and local governments to establish 401(k) plans was repealed just a short time after it was enacted by Congress.

During this short window of opportunity, state and local governments and their employee unions were asleep at the wheel. When they woke up, they were told the enabling legislation had been repealed. As a result, 18 million state and local governmental workers lost out on an enormous retirement savings opportunity. Lesson: “The early bird catches the worm.” 

The New York State Deferred Compensation 457(b) Plan, one of the nation’s great plans, failed to “catch the worm.”

Are you subject to Required Minimum Distributions (RMD)? Are you using the appropriate actuarial distribution table furnished by the IRS? Remember, the RMD is subject to income tax at ordinary rates (same as W-2 wages)

With that said, most should be using the Uniform Lifetime Table. It assumes that you have a hypothetical spouse beneficiary not more than 10 years younger than you. The Joint Life Expectancy Table should be used, in those instances, where your spouse beneficiary is at least 10 years younger than you. This will result in a smaller RMD (and a smaller tax bill) than using the Uniform Lifetime Table. The objective is to withdraw no more than the required amount. It’s in your best interest to fully understand which table you should be using. 

Please note, the Uniform Lifetime Table may not be used if your primary beneficiary is not your spouse. If this is your situation, you must use the Joint Life Expectancy Table.

Mr. Frank is a fee-only Retirement Financial Planner and a retired city high school Teacher of Accounting. He can be reached by phone at (732) 536-9472, or via email at rollover@optonline.net.

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