Direct Distribution vs. IRA

If you decide to take out everything, you need to pay your taxes on that lump sum payment in the same year you received it.  After that, you can do as you please with what’s left of your money.  The sole benefit of a direct distribution is that you may be eligible for a special tax rate.  The IRS may, if you were born earlier than 1936, tax you based on a ten-year-average tax rate.  This is of course lower than current tax rates.  The IRS may also charge you using a capital gains tax rate for that part of your package which was received in the form of shares or stocks.  If you don’t qualify for any of these, you will end up paying based on your regular income tax rate.

However, if you decide to roll-over your distribution into a traditional IRA and apply for a 72t IRA Distribution, you won’t have to pay the 10% early withdrawal penalty usually charged to retirees who withdraw their retirement package before reaching the age of 59 ½.  Amounts that are rolled-over to an IRA, including gains and earnings, are non-taxable until they are distributed.  In short, rolling your funds over to a 72t IRA allows you to postpone tax payment, not avoid it.

What is a 72t IRA Distribution?

A 72t IRA Distribution offers three payment or distribution options for early retirees.  The annual or monthly distribution is normally based on three factors – retiree’s age, age of beneficiary and the amount of money a retiree has.  These options are the minimum distribution method, amortization method and annuity method.

A 72t, once started, must continue to run for a minimum of five years or until the early retiree reaches the age of 59 ½, whichever is longer.  Once your 72t stops, you can then get everything out, pay your tax due (as you would have in a direct distribution scheme) but you won’t have to pay the 10% penalty.

Seeking Professional Advice

It is important that an early retiree who plans to roll-over his plan to an IRA using the 72t IRA distribution should consult with tax advisers, CPAs, lawyers, and other professionals who are well-informed and experienced with initiating and administering 72t roll-over arrangement.  For example, identifying which distribution option best suits your needs can be tricky.  This is due to the fact that a minor mistake or change on your part can end up with you paying the 10% penalty which you would have been able to avoid otherwise.  Please note, however, that once you choose either the annuity or amortization method, you are allowed a one-time option to switch to the minimum distribution or life expectancy method without incurring the 10% penalty.

Variable Annuities

The most effective investment tool for a 72t is a variable annuity.  Variable annuities allow an IRA holder to actively use his money in investments, therefore allowing him or her the possibility of gains and profits.