Tax Implications of Retirement AccountsOn April 2, 2019 by Betty Quinn
As your retirement accounts grow, it’s great to see how the number is increasing. But when you retire and swallow money from your IRA and 401K, the taxes you owe can make up a surprisingly large part of your total. Hopefully you will benefit from the tax benefits associated with contributions to most retirement accounts, but are you ready for the taxes and fines that you will face when you retire?
The general rule for retirement accounts is that you either have to pay taxes on the money before you put it in the account, or when the money comes out. Determining what is better for your situation or what you can expect with existing accounts starts with a good understanding of the tax consequences of various pension accounts.
Types of pension accounts
Individual pension accounts (IRAs)
You can get up to $ 5,500 (or $ 6,500 if you are 50 or older) in your traditional or Roth IRA for 2015 and 2016 if you meet the participation requirements. Even if you have multiple IRAs, you cannot exceed that limit for all accounts combined.
There are two types of IRAs: traditional and Roth. Depending on the type you use, you experience different tax consequences for contributions and cancellations.
- Traditional IRA . You can deduct the total amount that you contribute to a traditional IRA, with which you obtain a tax benefit for the year. Funds within the account will grow on the basis of deferred taxes, which means that you do not have to pay capital gains tax on growth. However, when you retire, you pay income tax on the total amount withdrawn. Most withdrawals made before turning 59 1/2 will be taxed and punished with a 10% early penalty.
- Roth IRA . A Roth IRA is essentially the opposite of a traditional IRA. You do not receive the immediate tax benefit when you contribute (you cannot deduct contributions), but when you retire, withdrawals are tax-free. Funds also grow on a tax-free basis while they are on the account (no capital gains). You can withdraw your contributions to a Roth IRA at any time without paying a tax penalty. However, you generally have to pay tax and a fine of 10% on your income before you turn 59 1/2.
There are a few exceptions to the early withdrawal fine for Roth and traditional IRAs (see below).
Many employers have drawn up a 401,000 plan for their employees and make it easy to use salary deductions for employee contributions. Contributions that you deposit into a 401k reduce your adjusted gross income, thereby reducing your total tax liability. Employers often also offer a match up to a certain percentage of your salary. The maximum annual employee contribution is $ 18,000 for 2015 and 2016. Some employees 50 or older may be able to contribute an additional annual “catch-up contribution” to $ 6,000 for 2015 and 2016.
When you finally make cash withdrawals, you must pay tax on your original contributions and on the income from the account. If you withdraw the money early (before you are 59 1/2 years old), you owe a fine of 10% of the withdrawn amount, plus taxes.
Some workplaces now offer Roth 401K plans, which allow you to determine which part of your contributions will be paid before or after tax, and those contributions generally follow the same rules as contributions to a traditional (before tax) or Roth (after tax) IRA.
A 403b account basically has the same rules as a 401k account and is a common option for government employees and people working for non-profit organizations. The maximum annual contribution is also $ 18,000 for 2015 and 2016. In these accounts, you use the salary deduction to pay premiums and then pay tax on cancellation. Just like with a 401K, you get a 10% penalty for early admission.
A Savings Incentive Match Plan for employees, or SIMPLE IRA, is an option that many small businesses use because they are less expensive to maintain. These accounts are similar to 401ks because you contribute money before tax and then pay tax when you withdraw. Employees may contribute a maximum of $ 12,500 a year for 2015 and 2016, and employers are generally required to double each dollar of an employee contribution to 3% of the salary. But if you have to withdraw your money early and your account has not been opened for more than two years, your fine is 25% instead of 10% (in addition to the income tax on the withdrawal amount).
A SEP-IRA is an inexpensive, easy-to-manage way to put money aside for your pension if you are self-employed or have a business with a small group of employees. These accounts follow similar rules and cancellation fines as a traditional IRA. However, as an employer you can contribute up to 25% of your income (or your employee’s income) to a SEP – the dollar amount cannot exceed $ 53,000 for 2015 or 2016.
Exemptions from the withdrawal penalty
Warnings about cancellation fines are all old-age waste administration, so the costs should not be a surprise. Fortunately, however, there are a few exceptions that allow you to avoid the 10% (or in some cases 25%) penalty hit. The rules differ depending on the account type. What follows are situations in which you could be exempted from tax penalties.
IRA / SEP-IRA / SIMPLE IRA Withdrawal exemptions
If you have a Roth IRA, you are lucky – you can withdraw your contributions to a Roth IRA at any time without paying taxes or fines. However, if you want to withdraw income from a Roth (you have already withdrawn the total amount of contributions) or withdraw money from a traditional IRA, you will probably pay Damon Wildeveijk a fine, unless you also meet one of the conditions below.
- IRA Rollover . You are not liable for taxes or fines for completing a direct rollover to another IRA – transferring part or all of it from one IRA account to another without taking the money. However, from January 1, 2015, the IRS only allows taxpayers to transfer once a year.
- Payout and deposit . A flat-rate payment from an IRA that you deposit into another IRA within 60 days does not lead to fines or taxes.
- Handicap . Withdrawals made if you are permanently or completely disabled do not lead to fines .
- Health premiums . Paying health insurance premiums with admissions during unemployment does not lead to fines.
- Claimed university fees . Paying for college costs for yourself or a dependent person (only qualified costs are eligible) with admissions may not result in fines.
- New home purchase . You will not be penalized if you use up to $ 10,000 to buy a house if you have not had a house in the last two years. There is a maximum lifetime of $ 10,000 for this exception.
- Specific medical costs . Using a benefit to cover medical expenses that are higher than 10% of your adjusted gross income (7, 5% if you or your spouse was born before January 2, 1951) will not activate the sentence.
- IRS levies . Means that are withdrawn to pay taxes by the IRS to pay off your tax debts are not penalized .
401k / 403b Disbursement exemptions
If you want to withdraw money from a 401k or 403b at no cost, you must determine whether you meet one of the following exemptions:
- IRA Roll over or deposit . A direct rollover to an IRA or a lump sum that you deposit into an IRA within 60 days is not penalized or taxed.
- Handicap . Recordings made when you are disabled will not be penalized.
- Death . Amounts withdrawn by your beneficiary or assets after your death will not be assessed as a fine.
- Retirement . Retiring at the age of 55 or older and withdrawing money will not lead to the penalty.
- Specific medical costs . The use of withdrawals to pay medical expenses that are higher than 10% (7, 5% if you or your spouse was born before January 2, 1951) of your adjusted gross income does not result in a fine.
- Divorce . Recordings made according to the rules of a divorce decree or divorce agreement (also known as a court decision with qualified internal Damon Wildeveand relationships) will not be penalized.
Essentially the same periodic payments
If you retire earlier or have to use your retirement account before you reach the penalty-free age of 59 1/2, a little-known way to avoid penalties is to set ‘essentially equal periodic payments’. With the IRS you can set yourself an annual salary, so to speak, without penalty. Withdrawals, however, must be spread throughout your life (the annual amount is determined by an actuarial formula). According to this agreement, you withdraw amounts that are roughly the same each year, and the schedule spans your life expectancy. Every year, the IRS publishes life expectancy tables to determine the number of years to cover. The IRS also helps you to take into account sustained growth or decrease (of investments) in your account.
Required minimum distributions
Although signing too quickly from your account can lead to fines, the IRS also has rules that ensure that you can receive distributions too late . Required minimum distributions (RMDs) are recordings, you must make the year that you turn 70 1/2. An exception is a Roth IRA, which has no RMDs and does not need admissions until after the owner’s death.
In addition, if you still work with 70 1/2, unless you own shares in your company, you can defer RMDs from employer-sponsored accounts such as a 401K until the year in which you retire. But you cannot postpone the use of RMDs from an IRA. In fact, the companies that manage retirement accounts send annual reports to the IRS; if the IRS sees that you are not using RMDs, you can get a tax of up to 50% on the amount that you should have withdrawn.
The amount of your RMD depends on your age, your marital status and the total value of all your pension accounts. The IRS publishes annual tables with the required minimums. If you have more than one pension account, you must determine how much you need to take from each account. You may not turn around and transfer the withdrawals to another pension account, but you can transfer the money to an interest-bearing savings account such as Ally Bank.
In the event that you inherit an IRA, 401K or other retirement account from someone who was not your spouse, you can choose to either withdraw the full amount within five years of the original owner’s death, or you can make the required minimum distributions all your life. Taking the total amount means a huge tax burden, so many people choose to take RMDs to spread the tax. (When a spouse inherits, he or she can often become the owner of the account and follow different rules.)
It is important to understand the tax implications of your accounts so that you know how much money you actually have available if you need it. Many people focus on the account amount instead of the amount they will see after taxes. But the last thing you want is to realize just before retirement that taxes bring you back, so you have to postpone it. If you are not yet, consider investing in Roth accounts to make tax time much less damn Damon Wildeveijk when you reach retirement age or need to withdraw money in an emergency.
Have you started tapping your pension? How do you plan to reduce your tax burden?
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