105-6 Plan Distributions - Part 1 Flashcards
3 Basic Distribution Options that may be available, depending on plan provisions
- Lump-sum distribution
- Annuity or other form of periodic payment
- Rollover or direct transfer
Net Unrealized Appreciation (NUA)
Taxpayer who receives a lump-sum distribution consisting at least partially of employer stock will not be liable for income tax on the NUA portion of the distribution until the stock is sold or otherwise disposed of
NUA portion of the stock taxed @ LTCG
Cost basis of the security taxed as ordinary income in the year of distribution
Annuity distribution from a qualified plan
Taxable as ordinary income to the extent that it exceeds the allocated portion of the employee’s basis
To calculate: divide total amount of after-tax contributions by the expected return of the annuity.
The expected return is the monthly benefit times the assumed # of payments. This establishes the exclusion ratio.
Direct Transfer
(Trustee to trustee transfer) occurs when the trustee or other custodian who holds the assets making up the participant’s accrued benefits transfers some or all of those assets directly to the trustee or custodian of another retirement plan or IRA
Not subject to the mandatory tax withholding
Any taxable eligible rollover distribution paid from an employer-sponsored retirement plan directly to the plan participant is subject to a mandatory income tax withholding of 20%, even if the participant intends to roll it over later
Rollover
A distribution from a qualified plan or IRA that the taxpayer subsequently contributes to another qualified plan or IRA within 60 days of receipt of the distribution
An employee-participant is not required to roll over the entire amount received from a qualified plan. The participant may roll over only a portion.
Questions to consider when a client is choosing between a lump-sum, annuity, or rollover distribution
- How will the benefit be used by the participant?
- Does the participant need the principal of the retirement benefits or just the income to support his anticipated retirement lifestyle?
- What is the amount of the retirement distribution?
- What is the anticipated life expectancy of the participant?
Required beginning date (RBD) for Required Minimum Distribution (RMD)
The RBD for the 1st distribution from a qualified plan must be made by April 1 of the year following the year in which the participant (or owner of the IRA) attained age 70.5
In subsequent years, the distribution must be made by 12/31 of that year
RMD start date exception for participants in qualified plans, Section 403(b) plans and governmental Section 457 plans
May defer the RMD beginning date until April 1 following the year of actual retirement, if the participant continues to work after attaining age 70.5
The participant’s RBD for distributions is the later of April 1 following the year in which the participant attained age 70.5 or actually retired
Not applicable for IRA’s
Exception not available if the participant is a >5% owner of the business sponsoring the retirement plan
Uniform Lifetime Table
IRS table
aka Table III
Designed to liquidate your client’s account balance over the joint-and-survivor life expectancy and a hypothetical beneficiary who is no more than 10 yrs younger than the participant, recalculated annually
Used to determine the RMD of a plan participant or IRA owner w/ 1 exception: if the participant’s designated beneficiary on the plan or IRA is the participant’s spouse and this spouse is more than 10 years younger than the participant, then the actual joint life expectancies of the respective spouses may be used
Special RMD table for original retirement plan owners whose spouses are actually > 10 yrs younger than the owner
Called Table II (Joint Life and Last Survivor Expectancy)
3 Types of RMD Tables
Table 1: single life expectancy table used by beneficiaries
Table 2: joint and last survivor expectancy table used when the sole beneficiary is a spouse who is actually > 10 years younger than the owner
Table 3: Uniform Table, used for original owners who are not married to a spouse who is > 10 years younger than the owner. Includes single people and HOH
Loans from qualified plans
No type of IRA-funded plan may allow loans
Most common type of plan to provide loans; Section 401(k) plan
Defined benefit plans rarely have loan provisions
Loans from qualified, Section 403(b), or gov section 457 plan must be repaid within 5 years w/ interest
Only exception - when a plan loan is made to allow the participant to acquire a dwelling to be used as a principal residence
Loan amounts permissible from qualified plans
Generally, plan loans limited to 1/2 the vested account balance of the plan participant, not to exceed a dollar cap of $50k
When vested account balance is < $20k, loans up to $10k are available without regard to the 1/2 the vested account balance rule
Max loan balance may also be reduced further by any loan balance the participant had in the 1-yr period preceding the loan
Dangers w/ loans from qualified plans & consequences of unpaid loan balance
1 potential danger w/ a retirement plan loan is that an employee is almost always required by the employer’s retirement plan doc to accelerate the repayment of a loan if the worker separates from service from the employer or the employer terminates the retirement plan
The unpaid loan balance after the allowed period is subject to both income tax and the 10% early distribution penalty rules
