Top IRA Trouble Spots

by Stacy Francis, CFP®, CDFA

Individual Retirement Accounts (IRAs) now hold more assets than any other retirement savings vehicles, but many people do not understand how they work and many IRA owners make critical mistakes that can cost them money. Here are some ways you can ensure that your IRA works for you.

1. Begin your required minimum distributions on time. Regardless of whether you are still working, you must begin taking an annual minimum required distribution from your traditional IRA no later than April 1 following the year you turn 70 1/2. You have much more flexibility with a Roth IRA and are not required to take distributions. However, for a Traditional IRA you will have still penalties if you don’t withdraw enough or you don’t withdraw it on time. You will owe up to 50 percent of the difference between the amount you took out and the amount you should have taken out. Why is the IRS so strict about taking distributions from a Traditional IRA and not a Roth IRA? The IRS wants your tax dollars. You must pay taxes on your distributions from a Traditional IRA while distributions from Roth IRAs are generally tax-free.

2. Don’t wait until the last moment. Don’t wait until the April 1 deadline to take out your initial minimum withdrawal. Don’t forget that you’ll have to make another withdrawal by December 31 of the same year. Watch out because these withdrawals in the same year could bump you into a higher tax bracket and increase your tax liability. Don’t let this happen.

3. Name a “real” beneficiary. One of the biggest mistakes is not naming a real (human) beneficiary. If you do not name a person, your assets will most likely go to your estate and this will cost you more money. That’s because if you hadn’t already started taking distributions yourself by the time of your death, the IRA assets must be distributed to your estate’s heirs within five years of death. Or if you had started, distributions must be paid out to the heirs over what would have been your remaining life expectancy. Either way, leaving your IRA to your estate deprives your heirs from “stretching out” the tax-deferred assets over their own lives and creates a bigger tax bill.

4. Name a contingent beneficiary. This allows the primary beneficiary to “disclaim” (reject) the IRA inheritance if he or she doesn’t need the money so that it automatically passes to the contingent, who typically is younger and can stretch out the inheritance longer.

5. Name the right beneficiary. Your spouse or parent isn’t always the best choice to name as the primary IRA beneficiary. An adult child might be a better choice. If you choose a young child you will want to consult a professional to find out if you need to set up a trust in their name to control the assets and distributions.

6. Changing your beneficiary. Don’t forget to change, in writing, your beneficiary in the event of a marriage, divorce, birth of a child, death of a beneficiary or similar circumstances.

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Stacy Francis, CFP®, CDFA

Stacy Francis is the Founder, CEO and President of Francis Financial, Inc., a Wealth Management and Financial Planning firm. With over 18 years of experience in the financial industry, she is a CERTIFIED FINANCIAL PLANNER™ (CFP®), a Certified Divorce Financial Analyst™ (CDFA™), and a Certified Estate Planning Specialist (CES™). She is the Co-Director of the Association of Divorce Financial Planners’ (ADFP) Greater New York Metro Chapter and a member of the Women Presidents’ Organization (WPO) and an honoree member of the Private Risk Management Association (PRMA). A nationally recognized financial expert, Stacy has appeared on ABC News, CNBC, CNN, PBS Nightly Business Report, The Today Show, Good Morning America, Fine Living Network, and The O’Reilly Factor. Stacy attended the New York University Center for Finance, Law and Taxation.