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I do not understand this rule: "IRA confiscates half of your account if you do not make your withdrawals by 70.5 years of age".

Why? What does it mean to make withdrawals? Just to request your money getting transferred to your bank account? or get monthly check?

And why would someone take half of my savings if I don't start withdrawing my money by the time I am 70.5 years old?

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D Stanley
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YohanRoth
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    Can you include a link to the source of the information you're getting that states that the IRA takes this money from you? Where are you getting this from? – schizoid04 May 22 '17 at 02:57
  • @schizoid04 updated. just Youtube vid – YohanRoth May 22 '17 at 03:07
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    For the record, most brokerage firms will send you a RMD without you asking prior to this happening. They look for your input on how you want the RMD accomplished, but failing that they will use their own desecration. – Pete B. May 22 '17 at 11:46
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    The question as currently worded is false. It is not a 50% penalty on the entire account, but a 50% penalty on the amount that was supposed to be taken. Still nasty – Eric Johnson May 22 '17 at 12:13
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    That YouTube video doesn't seem like a great source of information. There is a fair amount of incorrect info in there. It also makes it seem like Traditional IRAs are worse because your gains are also taxed. In reality, if you do the math, you pay exactly the same amount of tax given a particular rate of return for Traditional vs. Roth IRAs. For the Roth, that tax is just paid up front. – Daniel May 22 '17 at 17:36
  • Short answer: IRA's are basically a special form of deferred compensation, where you're allowed to invest it instead of just getting cash-value. The tax-man isn't about to let you defer that compensation all the way through to the end of your life, and potentially pass tax-free to your heirs. – hBy2Py May 23 '17 at 06:14
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    Instead of confiscating they could also just force a widthdrawal of the RMD. Don't ask me, why they wanted to tax the RMD with 50% instead. It probably comes down to taste. – NoDataDumpNoContribution May 23 '17 at 08:34
  • @NoDataDumpNoContribution Or just tax it as if it was withdrawn. – glglgl Jun 27 '23 at 07:49

5 Answers5

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According to the link below, it does appear that you must take an RMD, or Required Minimum Distribution, from your IRA at age 70½, or face a 50% penalty of the RMD AMOUNT that has NOT been taken, which is going to be much less than 50% of your entire account balance.

Why specifically this happens would be opinion based on my interpretation of the reasoning behind those that enacted the law.

I can tell you penalties like this are used to encourage behavior - you can't just leave your money in a tax-free account forever. The IRA is meant to help you build your savings for retirement, and at age 70½ you should be ready for retirement.

This means you must begin withdrawing the money - but that doesn't mean you have to spend it.

In the link below, there are outlines on what you can do to satisfy the required minimum distribution.

As it specifies, you can take one lump sum, or spread it out over multiple payments, and there's a calculator to identify what your RMD will be.

http://www.schwab.com/public/schwab/investing/retirement_and_planning/understanding_iras/withdrawals_and_distributions/age_70_and_a_half_and_over

As noted in the linked page, you DO NOT have to take an RMD on a Roth IRA. If this is important to you, you may want to consider Rolling Over your current IRA to a Roth.

psmears
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schizoid04
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    I think you should correct the misstatement (that half of the IRA would be confiscated). – Joe May 22 '17 at 13:57
  • I understand, I'll clarify it's a 50% penalty of the RMD Amount – schizoid04 May 22 '17 at 14:57
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    This is still incorrect. The penalty is 50% of the RMD amount that was NOT TAKEN in the year (with a special exemption for the first year: if you turned 70.5 in 2017, you have until April 1, 2018 to take the RMD for 2017 and you must take the 2018 RMD by December 31, 2018). That is, if the RMD is $10K and you take only $3K from your IRA, the 50% penalty is assessed on the $7K not taken, and not on the whole $10K. – Dilip Sarwate May 22 '17 at 16:25
  • Thank you for clarifying. I'll add it so I'm not giving out the wrong info – schizoid04 May 22 '17 at 16:28
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    The IRS requires you to take an RMD because they want to tax you. – RonJohn May 22 '17 at 16:41
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    Re "...at age 70.5 you should be ready for retirement." Yeah? Tell that to my neighbor, who was working well into his 90s - and at a physically & mentally challenging job, too. But I agree, the IRS thinks you should eventually pay taxes on all that money you're had sitting around. – jamesqf May 22 '17 at 17:23
  • Transferring the contents of a traditional IRA to a Roth IRA would result in a larger tax bill than just taking the RMD, no? – chepner May 22 '17 at 18:22
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    @chepner Probably so if you transfer the entire contents of the traditional IRA to the Roth. But if you have low income and you transfer the RMD to a Roth IRA, subsequent gains wouldn't be taxed. – Daniel May 22 '17 at 20:51
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    @Daniel RMDs cannot be transferred/rolled over into any kind of IRA. If you have compensation, you can make a new contribution to a Roth IRA subject to the usual Roth IRA rules as to how much and when. – Dilip Sarwate May 23 '17 at 00:01
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You elected to defer paying taxes by contributing to an IRA. Lawmakers simply want to make sure that they collect those taxes by requiring you to either withdraw the money (incurring a tax liability) or pay a penalty (tax).

NL - Apologize to Monica
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  • Considering that inheritance tax is a higher rate (it is, correct?), then it seems advantageous to the IRS to let someone forget. I am assuming here that someone forgets for the rest of their life, obviously. Maybe postponing withdrawal is due to high enough retirement income that the IRA withdrawal results in a higher tax bracket. Someone in that scenario might rather wait until this other income ends before using the IRA, except for this penalty rule. – donjuedo May 22 '17 at 20:07
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    @donjuedo You still have to pay the inheritance tax on money you haven't spent. So if someone is going to spend a certain amount of money in a given year, the IRS doesn't gain less inheritance tax if the person is spending their to-be-taxed dollars than if they're spending their already-taxed dollars, but if they don't require an RMD then the income tax continues to be postponed. – Daniel May 22 '17 at 20:55
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    @donjuedo, federal inheritance tax in the US only applies after the first $5.49 million. Not all IRAs reach that balance, much less have a substantial amount remaining above it. – Charles Duffy May 22 '17 at 23:01
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    Why can't they tax the withdrawal from (or rather closure of) the account by the estate when the account holder dies, separately from any inheritance tax? – Random832 May 23 '17 at 16:19
  • @Random832 income taxes are based on your "income" in a given year. So, you're suggesting that the IRS guess at how much distribution you would have taken in a given year, add that to whatever income you did receive in those years (say from social security, odd jobs, etc), compute the tax you should have paid, subtract whatever taxes you did pay cancelling out any credits that you got, which with the increased income you wouldn't have gotten, etc, all while accounting for tax law changes over the past 20+ years between your retirement and death, & do this without tying up the estate for years? – iheanyi May 23 '17 at 19:17
  • @Random832 That seems like a waste of money for just an inheritance in the millions, compounded by the significantly larger quantity of much smaller inheritances which would require the exact same amount of work to process. – iheanyi May 23 '17 at 19:22
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    @iheanyi No, I was thinking they'd tax it as if you'd earned all of it in the year of your death, which would get them more money. – Random832 May 23 '17 at 23:21
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In reference to the original question:

You put pretax (untaxed) money into an IRA. If this was a rollover from a company plan (like a 401k), your company may have also put pretax dollars in. As the account grows, you get gains on all of this money. The government gives you this amazing deal because they want you to save for retirement. But, they also want you to eventually spend the money in retirement and they want to collect those deferred taxes. So they require RMDs starting at age 70.5. To guarantee that people follow the rules, they make a stiff penalty for not doing so.

The IRS has the option to forgive a forgotten RMD distribution penalty, if you can convince them that it was a true oversight and not a deliberate flouting of the rules.

AnnieG
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I'm a series 24 securities principle and have explained and trained people on questions like these more times than I can count. Although, my first recommendation is to speak to a qualified tax professional for the appropriate answer for each individual scenario.

Disclosure aside, the source of truth for these questions is always the IRS publications. In this case it's IRS pub 590b: When Must You Withdraw Assets? (Required Minimum Distributions).

IRA stands for Individual Retirement Arrangement. Basically it's an arrangement between you a the government to encourage retirement savings. Tax payers(up to a define taxable income amount) agree to receive a deduction during your working years lowering your taxable income in the present. Your taxable income should drop in retirement because you're not working anymore and any withdraws would most likely be taxed at a lower rate. To be clear the require minimum distribution is based on a life expectancy factor and the ending balance of your pre-tax retirement accounts from the prior year(for ex. 2016 ending balance for a 2017 rmd). The rmd works out to be somewhere around 3-4% of your total balance.

Most retirement account providers(if not all) have established several conveniences to automate the withdraw process. I've believe that moving funds directly to bank deposits or moving the funds to another taxable investment account are most common.

Retirement account providers are required by law to give you notifications about RMDs. Some big firms allow you to setup an auto-distribution a year before you turn 70.5 to start when they need to. Because of the 50% penalty you're given so many notifications about an RMD that it's hard to forget about it.

The cows are in the Meadow
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There is no federal inheritance tax. The federal estate tax, currently, exempts the first 5.49 million (US citizen spouses even avoid this). Current law also does a stepped up basis on inherited assets which were bought with after tax money. Example: Dad bought a house years ago for 100k. He dies and leaves it to JJ along with other assets worth $100k (well below the federal estate tax level). JJ sells the house for $400k which was its market value on the day dad died. He gets to keep the entire $400k. Note: Current government wants to eliminate the estate tax AND the stepped up basis. In above case, JJ will now have $300k gains on the house sale and will pay income tax on that! He will end up with much less that $400k.

AnnieG
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