Taking Retirement Distribution

Ready to start taking money out of your retirement savings?

What is your approach to distribution?
If you’re like many Americans, you’ve been setting aside money for your retirement. Now that you’re nearing retirement age, it may soon be time to start drawing money from your qualified retirement plans.
Withdrawing money from a retirement plan is called “taking a distribution,” and there are a variety of ways to do it. We’re going to review several approaches.

Some retirees may have several sources of income. Among them are retirement plans, such as traditional IRAs and Roth IRAs, as well as 401(k) and 403(b) plans. Of course, you may receive Social Security benefits and some people also have other investments and savings that they intend to use during retirement. If you’re nearing the age when you may consider drawing money from your qualified retirement plans, you face a number of important distribution decisions.

Remember, withdrawals from traditional IRAs, 401(k)s, and other employer-sponsored retirement plans are taxed as ordinary income and, if taken before age 59½, may be subject to a 10% federal income tax penalty. Generally, once you reach age 70½, you must begin taking required minimum distributions.

To qualify for the tax-free and penalty-free withdrawal of earnings, Roth IRA distributions must meet a five-year holding requirement and occur after age 59½. Tax-free and penalty-free withdrawal also can be taken under certain other circumstances, such as after the owner’s death. The original Roth IRA owner is not required to take minimum annual withdrawals.
When it comes to taking distributions, you face a number of important decisions to make...
What to take first?
Should you pull money from your investment portfolio first or start taking distributions from your qualified retirement plans.
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How to take Distributions?
It’s not quite as simple as having money arrive every month; within certain limits, you get to set the terms of your withdrawal.
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What investment strategies should you use? 
How will retiring affect how you invest the rest of your money?
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What rules do you need to remember? 
It can be costly to disregard the regulations.New Paragraph
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What money to use first?

Taxable Accounts
(Savings & Investments)

Tax-Deferred Accounts
(Traditional IRAs, 401(k) & 403(b) plans)

Tax-Exempt Accounts
(Roth IRAs)
Generally, each source of retirement income may fit into one of three categories: taxable accounts, tax-deferred accounts, and tax-exempt accounts.
And one of the first decisions you should make is what money to use first.
Remember, withdrawals from traditional IRAs, 401(k)s, and other employer-sponsored retirement plans are taxed as ordinary income and, if taken before age 59½, may be subject to a 10% federal income tax penalty. Generally, once you reach age 70½, you must begin taking required minimum distributions.
To qualify for the tax-free and penalty-free withdrawal of earnings, Roth IRA distributions must meet a five-year holding requirement and occur after age 59½. Tax-free and penalty-free withdrawal also can be taken under certain other circumstances, such as after the owner’s death. The original Roth IRA owner is not required to take minimum annual withdrawals.

One approach to consider is withdrawing money from taxable accounts first, then tax deferred, then tax exempt.
By using taxable money first, you avoid paying taxes as long as possible with tax-deferred investments. And your tax-exempt accounts remain tax exempt for a longer period. This approach may not be best for everyone, however. Your decision should be influenced by your asset allocation, tax considerations, withdrawal fees, surrender charges, and other costs that may be associated with each specific account.
But if possible, consider using the power of tax deferral and tax exemption to your advantage.


How to take Distributions?

Leave it Alone
Lump Sum
Rollover
Annuity
Combination
How will you withdraw the money you have so carefully accumulated? One option is to leave it alone. That may work for a period of time and your money may continue to accumulate tax deferred. At some point, however, you may want to start taking distributions or move the money into another tax-deferred program. You also may be able to withdraw your retirement savings as a lump sum. That would put the funds at your disposal. However, most employers are required to withhold 20% when issuing a lump-sum check to pay for federal income taxes. And it’s possible that you may owe more than 20% in federal income taxes. If you take an early distribution, remember withdrawals taken before age 59½ may be subject to a 10% federal income tax penalty in addition to ordinary income taxes. You may be able to rollover the funds from a qualified retirement plan into a traditional IRA, which will allow your money to continue to accumulate on a tax-deferred basis. This can enable you to unify several different qualified retirement accounts into a single place. And if done properly, it won’t trigger a taxable event—meaning you won’t owe income taxes when you move the money. You would pay ordinary income taxes on withdrawals. If you are eligible, you also may consider transferring the assets into a Roth IRA. With a Roth IRA, you must pay current income taxes on the funds converted, however, future earnings will accumuate tax free. You may be able to take distribution as an annuity—that is, as a series of guaranteed payments. Depending on your retirement program, these payments could be monthly, quarterly, or even annually. Generally, the annuity payments are structured to last your lifetime or for the joint life expectancy of you and your specified beneficiary. Keep in mind that once you decided to take annuity payments, the decision is irrevocable. And with annuities, the guarantees are dependent on the issuing company’s claims-paying ability. Annuities are not guaranteed by the FDIC or any other government agency. Finally, if your plan allows, you might consider a combination of distribution strategies. For example, rollover part of your funds to a traditional IRA and take the balance immediately.

One of the more popular ways to take distributions from a qualified plan is to roll them over into an IRA. In 2017, 57% of households with traditional IRAs had funded their accounts by rolling over assets from an employer-sponsored retirement plan. The most popular reasons behind rollovers included the desire to consolidate assets, remove assets from a former employer’s plan, and increase investment options.

Source: Investment Company Institute, 2018.



Investment Strategies

Protecting Principal
Certificates of deposit
Money markets

Generate Income
Individual bonds
Income-oriented mutual funds
Fixed annuities

Growth Potential
Individual stocks
growth-oriented mutual funds
Variable annuities
To protect principal, money market mutual funds are one choice to consider. Money market mutual funds are not insured or guaranteed by the FDIC or any other government agency. Money market funds are investment funds that seek to preserve the value of your investment at $1.00 a share. However, it is possible to lose money by investing in a money market fund. When generating income, remember that bonds have different maturities and are subject to interest-rate, credit, and inflation risk. When interest rates rise, bond prices generally will fall, which may affect a bond or a bond fund's performance. Bonds redeemed before maturity may be worth more or less than their original cost. Market conditions will affect the return and principal value of bonds and bond funds. Fixed annuities can be structured to offer a guaranteed source of regular income for a fixed term or for a person’s lifetime. The guarantees of an annuity contract depend on the issuing company’s claims-paying ability. Annuities have fees and charges associated with the contract, and a surrender charge also may apply if the contract owner elects to give up the annuity before certain time-period conditions are satisfied. The earnings component of an annuity withdrawal is taxed as ordinary income and, if taken before age 59½, may be subject to a 10% federal income tax penalty. Individual stocks and variable annuities may provide growth potential. Individual stocks will fluctuate in value and when sold, they may be worth more or less than the initial purchase price. Mutual funds and variable annuities are sold only by prospectus. You should consider the charges, risks, expenses, and investment objectives carefully before investing or entering a contract. A prospectus containing this and other information about the investment company or insurance company can be obtained from your financial professional. Read it carefully before you invest or send money. With an annuity, a surrender fee may apply if the contract owner gives up the annuity before certain time-period conditions are met. Variable annuity subaccounts will fluctuate in value based on market conditions, and may be worth more or less than the initial amount invested if the annuity is surrendered.

In this hypothetical example, an aggressive portfolio allocated 80% of its assets to stocks, 10% to cash, and 10% to bonds. The hypothetical conservative portfolio had 20% in stocks, 20% in bonds, and 60% in cash. For the 20 years ended December 31, 2018, the aggressive portfolio was more volatile. In its best year, it returned 24.3%; in its worst it lost -29.3%. Overall, it averaged 6.2% annual rate of return for the period. In its best year, the conservative portfolio returned 8.1%; in its worst, it lost -7.1%. And for the 20 years, it averaged 3.7% annual rate of return. The difference between an 6.2% return and a 3.7% return can add up over time. Remember, past performance does not guarantee future results. Actual results will vary. Bonds have different maturities, and are subject to interest-rate, credit and inflation risk. When interest rates increase, bond prices generally will fall, which may affect a bond or a bond funds performance. Bond redeemed before maturity may be worth more or less than their original cost. Market conditions will affect the return and principal value of bonds and bond funds. Individual stocks will fluctuate in value and when sold, they may be worth more or less than the initial purchase price. Stocks are represented by the S&P 500 Composite index (total return), an unmanaged index that is generally considered representative of the U.S. stock market. Bonds are represented by the Citigroup Corporate Bond Composite Index, an unmanaged index that is generally considered representative of the U.S. bond market. Cash is represented by the Citigroup 3-Month Treasury-Bill index, an unmanaged index that is generally considered representative of short-term cash alternatives. U.S. Treasury bills are guaranteed by the federal government as to the timely payment of principal and interest. However, if you sell a Treasury bill prior to maturity, it could be worth more or less that the original price paid. Index performance is not indicative of the past performance of a particular investment. Past performance does not guarantee future results. Individuals cannot invest directly in an index.

Source: Thomson Reuters, 2019. For the period December 31, 1998, to December 31, 2018.

The difference between the conservative portfolio and the aggressive portfolio was roughly 2.5%.
In this example, one $100,000 portfolio generated a hypothetical 6.2%, while another generated a hypothetical 3.7% for a 20-year period. At the end of the period, the portfolio that produced the 6.2% annual rate of return was worth $281,729. The portfolio that produced the 3.7% annual rate of return was worth $202,915.

That’s a $80,000 difference.

This is a hypothetical example used for illustrative purposes only. It is not representative of any specific investment or combination of investments. Past performance does not guarantee future results. Actual results will vary.

Strategy #1: Mutual Funds

Benefits
Diversification
Professional Management
Convenience
Liquidity

Cons
Management fee
Taxes
Mutual funds accumulate a pool of money that is invested to pursue the objectives stated in the fund’s prospectus. Investors buy shares in the mutual fund, which is managed by an investment company. Mutual funds offer a number of advantages over individual investments, which take time, talent, and temperament to evaluate. Many mutual funds are diversified, which means they can invest in a range of securities. Diversification is an approach to help manage investment risk. It does not eliminate the risk of loss if security prices decline. Keep in mind that some mutual funds have more narrow investment objectives, which is why it’s critical to review the prospectus before buying. Mutual funds are sold only by prospectus. You should consider the charges, risks, expenses, and investment objectives carefully before investing. A prospectus containing this and other information about the investment company can be obtained from your financial professional. Read it carefully before you invest or send money. There are some disadvantages as well. Professional management comes at a price. The charges and expenses are outlined in the prospectus. And capital gains and dividends may be taxable—whether they are distributed to shareholders or reinvested in additional shares. While there are thousands of different mutual funds available, they fall into three broad types: equity funds, fixed-income funds, and money market mutual funds. Money held in money market funds is not insured or guaranteed by the FDIC or any other government agency. Money market funds seek to preserve the value of your investment at $1.00 a share. However, it is possible to lose money by investing in a money market fund. Equity mutual funds will fluctuate in value and when sold, they may be worth more or less than the initial purchase price. Bond funds are subject to interest-rate, credit and inflation risk. When interest rates increase, bond prices generally will fall, which may affect a bond fund's performance. Market conditions will affect the return and principal value of bond funds.

Strategy #2: Split Annuities

Another investment strategy combines annuities in creative and potentially effective ways. One approach uses two different annuity contracts, one to to generate income and one to rebuild principal. Under this approach, a retiree divides $400,000 between an immediate fixed annuity and a single-premium deferred annuity. Assuming a hypothetical 3% return on the immediate annuity, a hypothetical 4% return on the deferred annuity, and a 10-year contract, the immediate annuity would generate a hypothetical $1,253 per month in income. Over the same 10-year period, the deferred annuity would grow to $400,000—effectively replacing the principal. A split annuity strategy can help you generate current income while pursuing a future income stream. Remember, the interest portion of the immediate fixed annuity is subject to taxes. You also will have to pay taxes on the growth of the single-premium deferred annuity.
The guarantees of an annuity contract depend on the issuing company’s claims-paying ability. Annuities have contract limitations, fees, and charges, including account and administrative fees, underlying investment management fees, mortality and expense fees, and charges for optional benefits. Most annuities have surrender fees that are usually highest if you take out the money in the initial years of the annuity contact. Withdrawals and income payments are taxed as ordinary income. If a withdrawal is made prior to age 59½, a 10% federal income tax penalty may apply (unless an exception applies). Annuities are not guaranteed by the FDIC or any other government agency. This is a hypothetical example used for illustrative purposes only. It is not representative of any specific investment or combination of investments. Past performance does not guarantee future results. Actual results will vary.

Strategy #3: Combination

Another somewhat more complex and aggressive strategy involves dividing your money into three pools. The first pool is dedicated to income, the second to safety, and the third to growth. This shifts most investment risk to the third pool. It also means the third pool has the greatest potential for growth. Retirees gradually spend down the first two relatively conservative pools, giving the third more time to grow. In this hypothetical example, the first pool is invested in an immediate fixed annuity and would generate $2,150 per month in income during years 1 through 5. The second pool is invested in conservative investments, generating an average annual return of 4%. Its objective is to replace the original five-year immediate annuity. During years 6 through 10, the second pool also would generate $2,150 per month in income. At the same time, the third pool is invested for growth to take advantage of potentially higher returns. Keep in mind that with higher potential returns comes an increased level of investment risk. If the strategy is successful, the investment would rebuild the $400,000 principal, and the process could start over again. In contrast to the split annuity strategy, this approach depends on relatively aggressive investment of the third pool to succeed. You should consider carefully whether aggressive investing fits with your tolerance for investment risk. This is a hypothetical example used for illustrative purposes only. It is not representative of any specific investment or combination of investments. Actual results will vary. The guarantees of an annuity contract depend on the issuing company’s claims-paying ability. Annuities have contract limitations, fees, and charges, including account and administrative fees, underlying investment management fees, mortality and expense fees, and charges for optional benefits. Most annuities have surrender fees that are usually highest if you take out the money in the initial years of the annuity contact. Withdrawals and income payments are taxed as ordinary income. If a withdrawal is made prior to age 59½, a 10% federal income tax penalty may apply (unless an exception applies). Annuities are not guaranteed by the FDIC or any other government agency.

Rules to Remember

Required Minimum Distributions
Age 70½
Based on age, account value, and life expectancy

Excess Accumulation Penalty
50% of amount not distributed as required


Age 59½ Exceptions to rule
Unreimbursed medical expenses
Disabled
Higher education expenses
Buy or build a first home
When creating a distribution strategy, what rules do you need to remember?
Generally, you must begin taking required minimum distributions (RMDs) by age 70½. The rule states that the latest you can start taking RMDs is April 1 of the year following the year in which you turn 70½. The amount of these required distributions will depend on your age, the value of the qualified retirement account, and your life expectancy.

If you fail to take a distribution—or the distribution you do take isn’t large enough—you may be hit with a 50% excess accumulation penalty on the amount that wasn’t distributed as required. A federal income tax penalty also may apply.

Contributions to a Roth IRA may be withdrawn tax free at any time. To qualify for the tax-free and penalty-free withdrawal of earnings, Roth IRA distributions must meet a five-year holding requirement and occur after age 59½. Tax-free and penalty-free withdrawals also can be taken under certain other circumstances, such as after the owner’s death. The original Roth IRA owner is not required to take minimum annual withdrawals.

One of the more popular ways to take distributions from a qualified plan is to roll them over into an IRA. In 2017, 57% of households with traditional IRAs had funded their accounts by rolling over assets from an employer-sponsored retirement plan. The most popular reasons behind rollovers included the desire to consolidate assets, remove assets from a former employer’s plan, and increase investment options.

Not only are there penalties for taking a distribution too early, you may be subject to penalties if you don’t start taking distributions early enough.
You need to be aware of age 59½. That’s the age at which you can begin taking distribution of funds from your qualified retirement plan without incurring a 10% federal income tax penalty in addition to regular income taxes.
There are a number of exceptions to the age 59½ rule, including unreimbursed medical expenses. Your distribution won’t be subject to penalty if it is used to pay unreimbursed medical expenses that exceed 7½% of your adjusted gross income. Also, you won’t be subject to the penalty if you are disabled. And IRA distributions taken to pay higher education expenses or to buy or build a first home (up to a $10,000 lifetime limit) are exempted as well.

This quick summary provides only a brief overview of the age 59½ rule and its exceptions. Other exceptions may apply. Consider reviewing your options with a financial professional and also consulting a tax advisor regarding distributions.

Source: Internal Revenue Service, 2019
Source: Investment Company Institute, 2018.

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