During the tough times of the past several years, retirees have done everything they could to stretch their retirement accounts as far as they could go. But trying to stretch them too far will get you into trouble with the IRS.
Every year, most people who are 70½ years old or older by the end of the year have to take required minimum distributions from their traditional IRAs and 401(k) accounts. Although those who just turned 70½ in the past year have until April 1 to take their first distribution, others face a December 31 deadline. If you try to cheat -- or simply forget -- you'll get a nasty wake-up call from the IRS in the form of a big penalty: 50 percent of the distribution you should have taken.
Why So Harsh?
The big penalty serves as a reminder of how important withdrawals from retirement accounts are to the proper functioning of the tax laws. When Congress set up the rules governing IRAs and other retirement plans, it knew that savers would want to take maximum advantage of tax deferral. By requiring minimum distributions, Congress ensured that those tax advantages would eventually come to an end.
The process of calculating your required minimum distribution can be tricky. Essentially, you're required to take a fraction of your account every year, with the particular fraction based on your life expectancy as calculated by the IRS.
For instance, if the IRS tables say that you have a life expectancy of 20 years, then you'll need to withdraw 1/20 -- or 5 percent -- of your total account balance as of the end of the previous year.
Special Rules to Watch
Required minimum distributions aren't just for retirees. Although workers can sometimes defer having to take distributions from 401(k) plans if they're still employed beyond age 70½, IRAs aren't eligible for that exception even if you're still working.
Moreover, if you've inherited an IRA, you may have to take minimum distributions regardless of your age. Provisions allowing you to stretch out IRA distributions throughout your lifetime still require that you take a minimum amount each year, again based on your life expectancy.
For more on required minimum distributions, including the tables you'll need to calculate your personal amount, click here to go to the IRS website.