If you are close to retiring or are already retired, it's a great comfort if you've been able to stash a considerable amount of money into a tax-deferred IRA. When looking to draw on savings or investment assets during retirement, however, many people put the IRA at the end of the line. As they well know, any money taken from a traditional IRA is taxed as regular income.
"In theory, it sounds like a good idea, because why would you want to pay income taxes before you have to?" says Gary Plessl, an Allentown, Pennsylvania-based certified financial planner. Plessl and his partner, Kevin Houser, are the authors of "The Book on Retirement: Are You Ready for the Second Half of Your Financial Life?" (Richter Publishing, $20). But Plessl and Houser note that for some retirees, withdrawing some money from an IRA could make sense.
While the money in a traditional IRA is tax-deferred, the clock is ticking until the government gets its share. After age 70 1/2, the IRS mandates the owner of a traditional IRA take a yearly, taxable required minimum distribution, known as RMD. Plessl says most people know about RMDs, but few understand the implications. "Even if people are aware that it is going to happen, they don't think through the magnitude of it," he says. "The older you get, the larger portion of your IRA account on a percentage basis you'll have to take out every year."
For example, an 85-year-old with $200,000 in a traditional IRA could face an RMD of nearly $14,000, and that amount is added to your taxable income. "What ends up happening is a lot of people get thrown into a higher income tax bracket when they probably could have gotten some of the money out prior to 70 1/2 at a lower tax rate," Plessl says.
A married couple filing jointly can have taxable income in 2015 up to $74,900 and still stay in the 15 percent tax bracket. If that couple's income is less than $74,900, the money they withdraw from an IRA would be taxed at only 15 percent -- assuming the withdrawal doesn't put them above the $74,900 threshold. By reducing the amount in the IRA, it will reduce the required minimum distributions after age 70 1/2. It also gives a sense of certainty. There's no guarantee that in the future, tax brackets won't be higher as the government tries to close a mounting deficit.
To access an RMD calculator from the Financial Industry Regulatory Authority, go to nwsdy.li/rmdfinra.