Changes to IRA distribution rules considered

If you are 70 1/2 or older, should you take the minimum required distribution from your retirement accounts this year?
A federal law requires anyone older than 70 1/2 to withdraw a small percentage from their individual retirement accounts, 401(k) plans and other tax-sheltered accounts each year. The money that comes out is usually taxed as ordinary income. (Different rules apply to Roth IRAs and non-deductible IRAs.)
A bill in Congress would suspend mandatory distributions for 2009, supposedly to help seniors whose nest eggs are shrinking. AARP is urging the U.S. Treasury Department to suspend it for 2008 as well. There is speculation that Treasury could modify the rules in other ways to reduce this year's required distribution.
Some say these proposals would help people who need it the least. Seniors who don't need to pay living expenses from their retirement accounts could let the money continue to grow tax deferred. People who are living off their retirement funds will take the money out and pay taxes on it no matter what happens.
"These proposals don't make any sense," says IRA expert Ed Slott.
The law in question is designed to make sure that people who sock away money in tax-deductible, tax-deferred accounts eventually pay tax on it.
The amount of the required distribution for a particular year is based on your age at the end of that year and your account balance at the end of the previous year. The older you get, the bigger the percentage of the account balance that must be withdrawn.
Suppose you are 72 at the end of 2008 and had $500,000 in your regular IRA at the end of 2007. Your required withdrawal for this year is $500,000 divided by a number based on your age, which for someone 72 is 25.6.
Your required distribution, which must be taken before year's end, is $19,531 or about 4 percent of your total.
For an 85-year-old, the required distribution on the same account would be $33,784 or 6.7 percent of the total.
Some people hate these requirements because they would rather keep the money growing tax deferred as long as possible. They say the law really hurts this year because their distribution is based on account balances at the end of 2007, when stock prices were much higher.
They complain that the law is forcing them to sell stocks now, when prices are low, to take their required distribution. But that's not always true.
Brokerage firms usually let customers transfer stocks, funds or other securities from an IRA into a taxable account without selling them. Taxes are still due, but if customers can pay the tax without selling their securities, they can maintain their positions.
This is not usually possible with 401(k) plans because they generally don't hold funds available to the retail market," says Rick Meigs, president of 401khelpcenter.com. However, you could take your required distribution from a 401(k) plan, pay the tax and invest in the same fund's retail share class or in a similar fund. One exception: Company stock can usually be transferred out of a 401(k) plan without selling it.
A bill sponsored by Sen. Max Baucus, D-Mont., chairman of the Senate Finance Committee, would temporarily waive required distributions from IRAs, 401(k) and similar workplace plans for 2009.
AARP has urged Treasury to suspend them for 2008 as well. David Certner, AARP's legislative policy director, says Treasury could do this without congressional approval because it interprets the law.
But Clint Stretch, managing principal for tax policy with Deloitte Tax, says a suspension would need an act of Congress. However, he says Treasury can do something to "soften it," such as letting people calculate their distribution on their account value at the end of 2007 or 2008, whichever is lower, and delay the withdrawal until April 15, 2008.
Certner says that proposal "is certainly better than nothing" but would prefer an outright suspension. He says this would mainly help people who are well-off, but "these are people who have done what we asked them to do and now they are being harmed pretty dramatically by drops in the market," he says.
Others disagree. "I don't know what it would accomplish," Meigs says. "I don't know how it would stimulate the economy. Those dollars are not going to be spent. It would certainly reduce tax revenue. I don't know why the government is pursuing this."
Even if the government suspends the requirement, some seniors would be better off taking their distributions now because tax rates are likely to rise, at least for upper-income individuals.
The uncertainty is causing problems for people who haven't taken this year's distribution. Stretch says they should "take a deep breath, get their holiday shopping done and check in on the 15th of December."
E-mail Kathleen Pender at kpender(at)sfchronicle.com.

(Distributed by Scripps Howard News Service, www.scrippsnews.com.)
Must credit the San Francisco Chronicle