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Keeping Track of Varying Distribution Rules

The complications involved with required minimum distributions are fairly well known for those of us approaching age 70 and owning a 401(k) or IRA or multiple qualified retirement accounts. If you are a bit younger, and not yet thinking about those coming distributions, it might behoove you to get up to speed on what you will need to do at that time. It will certainly help you in planning your income – cash flows and taxes – during retirement.

With regard to non-qualified tax deferred accounts such as an annuity, you as an owner will not be subject to required distributions during your lifetime. That will add some flexibility to your planning since you can control if and when funds come from the accounts and when you can take additional income and handle the associated tax burden.

As interesting as these varying requirements may be, it gets even more so when you are the lucky beneficiary – inheritor – of a non-qualified annuity. Of course you will be able to receive immediate distribution of the full value of that annuity and then pay the ordinary income taxes on all the gain in the contract. The baseline rule has you taking all the money out within five years of the death of the owner. However, if you so choose, you may be able to take either annual or monthly payments over a period no longer than your life expectancy and avoid the immediate tax burden. Those monthly payments will be apportioned between the cost basis (untaxed) and the gains (taxed) in the contract. This allows you to spread that tax burden out over time, just as you would with required distributions from an IRA, for example.

The catch is that required minimum distributions kick in immediately, based on your single life expectancy. This makes the administration of the payments a bit more complicated since it necessary that the payment stream promised each year is adequate to cover the required minimum distribution amount. As you are probably aware, the factor applied to the value of the account to determine the required distribution amount decreases each year so that a larger proportion of the account value must be distributed. With the non-qualified annuity, this factor is not as generous as that applicable to an IRA or other qualified account so more money is forced out each year, beginning immediately and not waiting until you reach age 70 ½ or some other magic number.

Be aware that the rules are complicated and that all required minimum distributions are not equal. Get advice from a tax professional, not an insurance salesperson.   

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