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How shall I pay me?

Updated: May 3, 2013 12:14PM

Originally published: August 1, 2007

You’ve spent years building up your traditional IRA, or the IRA rollover you created when you left your job. But if you reached age 70 1/2 last year, then April 1 will be a critical date for you.

It is your required beginning date - the date when you must start making withdrawals from your IRA. You can withdraw as much as you want at any time - without penalty.

But even if you don’t need the cash to live on, there is a required minimum distribution each year. How much you must withdraw depends on what method is used to do the calculations. But here’s the critical point: You must choose a form of retirement withdrawal calculation before April 1.

If you don’t make that first withdrawal by April 1, you’ll be subject to a 50 percent penalty on the amount you should have withdrawn but didn’t.

A second distribution must be made by Dec. 31, if you didn’t take a distribution in 1998.

If you are turning 70 1/2 this year, you also should be starting to plan. Even though you’re not required to make the first withdrawal until the year after you reach 70 1/2, taking your first distribution this year means you won’t have to take two distributions next year.

So if you, or your parents, reached 70 1/2 last year or will this year, this is the right time to start making plans.

Setting your goals

The first important question is one that only you can answer, and the answer will be different for everyone.

Do you want to take the least possible amount out of your IRA, leaving the balance to continue growing tax-deferred? Or are you dependent on your IRA for living expenses and just trying to stretch out the withdrawals to cover your life expectancy?

Taking minimum withdrawals is the choice you should make if you have enough other assets - outside your IRA - to use for retirement expenses. You’ll want to use that IRA money last, letting it grow as long as possible and leaving the balance for your surviving spouse.

Remember, though, that if you’re a surviving spouse and you die leaving a large IRA balance, it becomes part of your estate and could be subject to estate taxes.

On the other hand, many of you are counting on that IRA money to provide the bulk of your living expenses in your retirement. You’ll want to take as much money out as possible every month, without running out of cash at the end of your life. That requires a different sort of calculation.

There are two great unknowns as you make this decision about withdrawal options. The first is, of course, you don’t know when you’ll die. And if you’re married, you don’t know which spouse will die first.

The second unknown is how your investments will fare within your remaining IRA. If you keep your money invested in a mutual fund and expect 20 percent annual growth, your monthly withdrawals could be larger than if you’re keeping your investment in a money market fund.

But if we run into a sustained market decline, your mutual fund investment wouldn’t last as long as projected.

Similarly, if you live longer than the actuarial tables predict, you’ll need extra cash. So it’s important to remember that calculating withdrawals is an art, not a science.

Naming your beneficiary

The second important question you must consider for your IRA is naming a beneficiary. Married people typically, but not always, name their spouse as beneficiary. Others will name a child.

The age of your beneficiary affects your withdrawal calculations. Some people want to designate a charity as beneficiary - but that limits your flexibility in calculating withdrawals. A charity does not have a life expectancy - so withdrawals can be based only on your own life expectancy, resulting in a larger required minimum withdrawal.

Even though the IRA owner can change his or her beneficiary at any time, you cannot lengthen the payout schedule after you’ve passed that April 1 required beginning date. So you always should consider naming a beneficiary with a life expectancy, in order to stretch out your distribution period.

It’s important to remember that even if you calculate your required withdrawals to be as low as possible, you always can withdraw more than the required amount if you need the money.

Calculating distributions

Once you’ve figured out your goals and named your beneficiary, there are three methods for calculating required IRA distributions.

You don’t have to become an actuary, but you need to at least understand how they work in theory.

You’ll find plenty of free help in making the calculations. Any bank, brokerage firm or mutual fund that acts as your IRA custodian will be happy to do the math for you. But you may have several different custodians for your IRAs.

Although you do not have to withdraw from each account, you’ll have to ask each custodian to do the calculations based on the same scenario. Then you can take the minimum required from one or more of your different IRAs.

The three options are recalculation, term certain and a combination of the two, often referred to as the hybrid method.

Your choice of methods will have to include an assessment of the tax situation of your beneficiary. Remember, all withdrawals are subject to ordinary income taxes. And since your IRA is part of your estate, it may be subject to estate taxes, as well. Only IRA assets that pass to a spouse - as with all assets left to a spouse - are exempt from estate taxes. That’s why, if you have a large IRA, you might want to consult your tax specialist or estate planning attorney before designating the beneficiary and the payout terms.


The recalculation method is the most popular and widely used method of payout. It generally is the method to use if you want to take out the minimum amount every year and if you want to be sure you don’t run out of money before you run out of life.

Recalculation appears to be the default choice offered by most bank, mutual fund and brokerage custodians. In this method, the minimum required annual distribution is based solely on the individual’s life expectancy if the beneficiary is a non-person such as a charity, or the joint life expectancy of the IRA owner and spouse. (Non-spousal beneficiaries cannot recalculate.) That individual or combined life expectancy is determined by IRS tables, which are printed in IRS publication 590.

You simply take that individual or combined life expectancy figure from the table and divide the total value of all of your IRAs at the end of the previous year by that life-expectancy figure to get the minimum amount you must withdraw that year. Every year, your individual or combined life expectancy figure drops. But as you read the IRS tables, you’ll note that the life expectancy does not drop by a full year because the longer you live, the longer you’re likely to live. (In fact, at age 110, the IRS tables still show a life expectancy of one year.)

Also, every year your total IRA balance will change, depending on your investments. So every year the required minimum withdrawal must be recalculated. It’s a chore that will be handled by your IRA custodian or accountant.

There are a few things to keep in mind using the recalculation method. This dual recalculation method (using combined life expectancies) produces the lowest required distributions and guarantees that you won’t outlive your IRA. But if either the IRA owner or beneficiary dies, that person’s life expectancy drops to zero in the year after death. If it’s the beneficiary who dies, and the owner names a new beneficiary, the distributions still must be made only on the owner’s life expectancy. That means an untimely death of the beneficiary will accelerate distributions because they subsequently will be made using only the life expectancy of the IRA owner.

Term certain

The second method of payout is the term certain calculation. The joint life expectancy is calculated only at the time of the initial distribution and declines by one year each year. Each year’s required minimum distribution is calculated by using the year-end balance in your IRA, divided by the new, one-year-lower life expectancy.

Term certain is the easiest way to distribute your IRA assets.

Even if the owner or beneficiary should die during the period of distribution, the distributions continue at the same rate.

But there is one problem: If you live longer than the actuarial tables predict, you could outlive your IRA. (This method should not be used if longevity runs in your family.)

Term certain also may result in a very large distribution in the final years, when the remaining cash finally must be distributed.

Hybrid method

The third method is the hybrid method, and it’s a mixture of the other two. The IRA owner typically recalculates, while the beneficiary uses the term certain method - although it can work the other way around between spouses. The hybrid method must be used when the IRA owner is recalculating and the beneficiary is not a spouse because a non-spouse cannot recalculate. So if you’re naming a child or grandchild as beneficiary, you’ll probably use the hybrid method.

You may think that by naming a young grandchild as beneficiary, you could really stretch out the payments and minimize distributions.

Well, the IRS has thought of that, too. So for calculation purposes, a non-spouse beneficiary cannot be more than 10 years younger than the IRA owner.

The advantage of using the hybrid method is that if the IRA owner beats the life expectancy tables, he or she will continue to receive distributions in later years.

If you’ve been confused about which option to choose, you’re not alone. You really could use some professional help - but even many tax experts are not familiar with all of these issues.

There is one service that is designed to answer all your IRA questions, and it was a great resource for this column. Ed Slott’s IRA Advisor (800-663-1340, $79.95 a year) is a monthly newsletter that keeps readers updated on traditional and Roth IRA issues.

Slott, a certified public accountant, has expertise in IRA issues. He also answers questions at his Web site (

Don’t be too proud, or too confused, to ask for help.

Terry Savage is a registered investment adviser for stocks and commodities and is on the board of directors of McDonald’s Corp. and Pennzoil Co. You can send her questions via e-mail at savage@ Her second book, published by HarperCollins, is Terry Savage’s New Money Strategies for the ‘90s. Copyright Terry Savage Productions.

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