It's Time for Some to Tap Their IRA

If you've been socking away money into a regular Individual Retirement Account, you're probably staring at a sizable stash. Which leads to a very important question: When can you get your hands on it?

The short answer is: Whenever you want.

The smart answer is: Hold off as long as you can.

There are two critical ages with a regular IRA. At 59½, the government allows account owners to make withdrawals without penalties. You can take as much or as little as you like -- whenever you like. At the end of the year, you simply pay income tax on the money you withdrew.

At the age of 70½ (defined in government speak as the April 1 following the year you turn 70½), you must start taking money out of your regular IRA. That's because the government doesn't get its money -- income tax -- until you make withdrawals from your account, and it wants to give you plenty of time to spend every dime.

If you have a Roth IRA -- in which the tax was paid before the money went into the account -- no such rules apply. You can keep building a Roth for as long as you like.

Before 59½

Many people don't realize that the government also will allow you to take money out of a regular IRA without penalty before the magic age of 59½. There are about a dozen reasons that the government will let you access the money, such as disability, higher education expenses and first-time homeownership. The bad news: The rules are very rigid. You must carefully document your reasons for early withdrawal or face hefty IRS penalties.

You also can take the money out early without having to meet one of the exception circumstances as long as you take it out in regular amounts. This is known as the substantially equal periodic payment method. Once you start withdrawing using this method, which is based on an IRS established life expectancy tables, you must continue taking them for at least five years even if you reach 59½ in the interim.

But probably the greatest risk is that the earlier you start dipping into an IRA, the greater the risk of outliving it.

Rule 1: At any age, before you set up a plan to take money out of your IRA, do your homework. Unless you've got some major financial know-how, this is not the time to go it alone. Get a trained financial planner and a tax specialist to walk you through the pros and cons. Make sure you feel comfortable with the advice and get a second opinion, if you can.

Rule 2: Look at the long term. People are living longer, healthier lives. But the cost of health care and elder care has skyrocketed. If you tap into the IRA now, are you going to be broke when you reach your eighties or nineties?

This Magic Moment -- 70½

If you're nearing 70½, the government has some good news for you. While you are required to start taking regular disbursements from your regular IRA account, the IRS has made the rules a lot simpler. The agency modified its life expectancy tables to reflect longer lifespans. That means the required disbursement, the amount the government says you have to withdraw each year, is smaller.

If you take only this minimum amount every year, it will be nearly impossible to outlive your retirement account. You do have, however, the freedom to take more out if you like.

"This changes it for the better for everyone," says Barry Picker, CPA, certified financial planner and the author of "Barry Picker's Guide to Retirement Distribution Planning." And by taking minimum disbursements, he says, "you can never run out unless your investments are so bad that the account drops under the minimum distribution."

"Under the old system, you had to make huge, irrevocable decisions -- now all you have to do is take out the minimum distribution," says Natalie Choate, estate planner with Bingham McCutchen LLP in Boston and author of "Life and Death Planning for Retirement Benefits." And since the account custodian files reports to the IRS each year, "you no longer have to hire a special expert for that process."

Still, even though the rules are easier to understand, this is no time to go it alone. "Now I hope the focus will shift to what is the best way to invest to make the account last and who should be the beneficiary," says Choate, who recommends meeting with a financial expert to create an estate plan.

Sit down with a financial planner or estate planner and look at how much money you have in your account, how long you and your spouse expect to live, special needs your family might have -- and, based on that, how much money you can comfortably afford to take out each year.

Beneficiaries

If you have an IRA, no matter how old you are, you need to name a beneficiary. The beneficiary is the person who will inherit your IRA when you die. While account holders can change beneficiaries whenever they want, most experts agree that it usually makes the most sense to name a spouse as beneficiary.

"If you're married and your spouse relies on your IRA income, that's the person you want to name -- and most people go this route, says Twila Slesnick, a Dublin, Calif., tax accountant and co-author of "IRAs, 401(k)s & Other Retirement Plans: Taking Your Money Out."

If the spouse happens to be more than 10 years younger, the IRS will allow you to use a joint life expectancy table. End result? Since one of you is expected to live at least 10 years longer -- smaller required withdrawals.

If you die after you start taking your distributions, your beneficiary will receive the disbursements over their expected lifespan according to the IRS table. If you have several beneficiaries, the IRS will use the age of the oldest one. If you die before you start taking distributions, and have named your spouse as your beneficiary -- the spouse can roll your account into his or her own IRA, empty the account within five years, or take disbursements over his or her entire lifetime. Most spouses choose to roll the money into their own IRA. If your beneficiary is not a spouse, that person has two choices: take the money over five years or over his or her lifetime.

If you die without a beneficiary before beginning regular distributions, the account will pass to your estate -- and must be emptied within five years, says Picker. If you die without a beneficiary after you begin taking distributions, then the account will be paid out through your estate over what would have been your lifespan according to the IRS table.

Some experts believe that IRS regulations now give executors some latitude in passing IRA accounts on to the heirs of an estate, even if the account holder died without naming a beneficiary for the IRA itself. Others disagree.

The best advice? Make things easier for your heirs and name a beneficiary. And if your IRA is the only money in your estate, leave enough in life insurance to cover estate taxes, says Picker. That way, your heirs don't have to dip into the IRA to pay estate taxes then turn around and burn up additional IRA money to cover taxes on what they had to withdraw.

Last, but not least, don't forget to put a little of your disbursement income away for a rainy day. Just because you've tapped your IRA doesn't mean the days of squirreling away money are over, says Ed Slott, a New York-based CPA and author of "Ed Slott's IRA Advisor," a monthly newsletter. "Even though you are retired," says Slott, "keep saving."