Ages to Know for Your Retirement Funds

With all of the different rules and regulations for 401(k)s, IRAs, and Roth IRAs, it can be difficult to remember at what ages you can start using retirement funds from your various accounts. Taking distributions too early or too late can incur stiff penalties you don’t want as burdens against your savings. Whether you retire at 45 or 85, you should keep these three ages in mind when deciding what to do with your retirement funds.

Age 55—This is the earliest you can take distributions from a 401(k) without penalty. However, there are stipulations to this allowance. First, you must retire in the year you turn 55, or after, to access the funds between ages 55 and 59. If you retire before age 55, you won’t be able to access your funds until you are 59 ½. Second, if your 401(k) is through a previous employer that you are no longer working for, you may or may not be able to access funds at age 55. If you left that employer at or after age 55, then you can take penalty free distributions. If you left that employer before age 55, then you will have to wait until 59 ½ to take a distribution from that account. Last, you must keep your funds in the 401(k) account. If you try to roll the funds over into an IRA, the IRA rules will apply and you won’t be able to access the funds early.

 

Age 59 ½–At this age you can start taking penalty free distributions from an IRA or Roth IRA. Keep in mind that distributions from a traditional IRA will count as taxable income and may bump you to a higher tax bracket depending on the amount you withdraw. Technically you can take a penalty-free distribution on a Roth IRA at any age as long as the account has been open for five years or more. If the account is less than five-years-old, you will have to pay taxes on any distributed earnings from the account. Most financial advisors would recommend still waiting until age 59 ½ to avoid unforeseen penalties and to allow the funds to grow further in the Roth account.

For a 401(k), age 59 ½ is a little tricky. If you are still working at age 59 ½, you may start taking distributions from an old plan, but distributions may be prohibited from a company you are currently working for. Some plans allow in-service distributions, but others do not. If you are retired at 59 ½, you are free and clear to take distributions from a 401(k).

Age 70 ½–Whether or not you have taken distributions in the past, traditional IRA and 401(k) accounts will start required minimum distributions (RMDs) at this age. RMDs are calculated each year by your life expectancy and how much money is in the account. If you are still working at this age, some 401(k) plans make an exception to this RMD regulation. Roth IRAs don’t have RMDs since this rule only applies to tax deferred accounts.

The Three Situations Where You Might Consider an Early Withdrawal From Your Self-Directed IRA

It’s important to understand that the default IRS regulations regarding early withdrawals from an IRA. In general, taking a distribution from your account before age 59½ will subject you to a 10% penalty on the amount of the distribution, plus whatever taxes may be due.

In each of the situations below, there are specific requirements that need to be met in order to avoid having to pay the 10% penalty, but in all cases you still may owe taxes on the amount of the distribution. Pay close attention to all the requirements. If you make a mistake in the distribution process it could prove to be quite costly.

  1. To Purchase a First Home. The IRS regulations allow you to take a distribution of up to $10,000 to pay for a down payment on your home if you are a first-time homebuyer (which is defined to mean that you haven’t owned your own home in the past two years). You can also use this penalty free provision to assist a child or grandchild with their down payment, if having access to these additional funds would make the difference between getting a home and not – but it may be worth forgoing future growth of those funds
  2. For Certain Uninsured Medical Expenses. There are actually two situations in which you can use your self-directed IRA in order to pay for some of your medical expenses. The first is in situations where you need to pay for certain unreimbursed medical expenses. The second situation is to pay for medical insurance premiums for you and your family when you are unemployed. one reason taking this type of early withdrawal can be so important is that it eliminates any temptation that might otherwise exist for you to underinsured or yourself or otherwise not seek necessary medical care.
  3. Higher Education Expenses. The third exception we’ll discuss is taking an early withdrawal in order to pay qualified educational expenses. Generally this means paying tuition or room and board for your child, but you can also make such a withdrawal for your own educational expenses, those of your spouse, or those of a grandchild.

There are no limits for how much you can take out of your account early for these purposes. However, given that an early distribution means that you’re losing out on the long-term growth potential of those funds, you may wish to explore other funding options first, including student loans (which in some cases can involve interest and that’s tax-deductible).

In fact, in each of these three situations, it’s always important to consider other alternatives prior to taking an early distribution from your self-directed IRA. Just because you’re authorized to do so doesn’t mean there isn’t a better way.

In addition to losing out on future investment growth, there are other ways in which taking an early distribution can be a bad financial decision. For example if you need to liquidate certain investments early, then the effective loss you experience by taking the early distribution is effectively much greater than the amount of the distribution.

Increase Your Private Investment Allocation With Your Self-Directed IRA

Individual retirement accounts are perhaps the single most powerful tool you have in your retirement planning arsenal. You have greater control and flexibility over your retirement funds as compared to an employer-sponsored 401(k), and a Roth IRA can provide significant benefits for tax savings and estate planning purposes.

Self-directed IRAs take things a step further. Having an account with a custodian such as Quest Trust Company will allow you to invest in an even wider range of asset types, including a variety of private investments. Here are some ways to increase your portfolio allocation into these investment types by using a self-directed IRA.

Private Mortgages. Regardless of the state of the economy, people are always going to want (or need) to buy and sell homes. The IRS regulations permit you to use a self-directed IRA in order to issue private mortgages. Provided you understand the process fully, follow all legal requirements and evaluate your risks accordingly, you may find this to be a significant boost to your portfolio.

In fact, when prevailing interest rates increase and it becomes more difficult for the average home buyer to get a loan from a bank, you may have even more opportunities for making private mortgages.

Private Equity. Similarly, a self-directed IRA can be used to make private equity investments as well. Depending on the size of your portfolio and your overall financial situation, this can be a way to gain a completely unique risk/reward exposure that wouldn’t be available in any other investment you could make.

Some private equity investments will require that the investor be a so-called “accredited investor”. This is a legal term defined by the SEC to mean a person who either (1) has a net worth of at least $1,000,000 (not including the value of their primary residence), or (2) has an annual income of at least $200,000 over each of the last two years (or has a joint income of $300,000 in each year with their spouse) and a reasonable expectation to achieve the same income this year.

Note that even if you’re looking to invest with your self-directed IRA and your account meets these standards, you’ll still need to meet those standards individually.

Private Partnership Interests. You can use your self-directed IRA to invest in various types of private partnerships. These may include traditional businesses as well as natural resources development opportunities such as those that can be found in the oil and gas industries.

Remember that when you invest your self-directed IRA in a private partnership, you’re prohibited from benefitting from it individually while the investment is still held within your account. So if the partnership invests in vacation real estate properties, neither you nor your family or any other related parties can stay in the property while you’re still invested.

Regardless of the private investments you’re considering making, be sure to do your research and understand all the risks before you commit your account funds.

Can You Deduct Your Self-Directed IRA Contributions Deductible In 2015?

Being able to deduct your self-directed IRA contributions from your tax return can be a great incentive for you to maximize those contributions each year. But not all IRA contributions are deductible.

Roth vs. Traditional Self-Directed IRA. The first consideration in determining whether you can deduct your 2015 contributions to your self-directed IRA is whether your account is set up as a Roth account or as a traditional account. Contributions to Roth accounts are never deductible, and contributions to traditional IRAs are sometimes deductible. Let’s examine the circumstances under which contributions to your traditional self-directed IRA can be deducted on your 2015 tax return.

You Aren’t Covered By an Employer Sponsored Retirement Plan. If you don’t participate in an employer retirement plan (such as a 401(k) plan, profit-sharing plan, SEP, SIMPLE-IRA or certain defined benefits plans that you participate in), then your contributions to your self-directed IRA will be fully deductible, regardless of your income, if either (a) your tax filing status is single or (b) you file a joint return with your spouse but your spouse is not covered by a retirement plan at their employer.

If you file a joint return but your spouse is covered by a retirement plan at their job, then you’ll be able to deduct the full value of your contribution if your joint income is $183,000 or less. You can take a partial deduction if your joint income is between $183,000 and $193,000, and no deduction is available if your joint income is $193,000 or more. For purposes of these income thresholds, it’s not your gross income, but your Modified Adjusted Gross Income (“MAGI”) that’s relevant.

You Are Covered by an Employer Sponsored Retirement Plan. If you are covered by a retirement plan at work, then your ability to deduct your self-directed IRA contribution will again depend upon your MAGI and your filing status.

If you file a single tax return, then you’ll be eligible for a full deduction if your MAGI in 2015 is$61,000 or less. You can take a partial deduction for an MAGI between $61,000 and $71,000, but no tax deduction for your contributions if your MAGI is $71,000 or greater.

If you’re married and file a joint return, then you can take a full deduction for your contribution if your joint MAGI is $98,000 or less, or a partial deduction if your joint MAGI is between $98,000 and $118,000. Your deduction will not be deductible if your joint MAGI is $118,000 or more.

While being able to get a current year tax deduction for contributions to a traditional self-directed IRA can be valuable, even non-deductible contributions (such as to a Roth self-directed IRA or to a traditional account in years where your MAGI is too high) can be extremely valuable to your retirement future. The ability for your investments to grow in a self-directed IRA for years or decades on a tax-deferred or tax-free basis is something you shouldn’t pass up.

 

Should You Use Your Self-Directed IRA to Buy Investment Properties While Interest Rates are Low?

The ability to invest in real estate is one of the most common reasons why retirement savers first start becoming interested in the self-directed IRA. An individual retirement account with a self-directed IRA custodian such as Quest Trust Company individuals to out their retirement funds to work in investments that traditional IRA custodians simply wouldn’t allow.

Adding to the desirability of investment real estate for retirement savers is that interest rates on mortgages and other types of borrowing continue to be quite low.

UBTI

Even if interest rates are low, you may not be able to derive the benefit you hope from borrowing money to buy real estate with your self directed IRA. This is because the tax laws that authorize individual retirement accounts put some limitations on how those accounts may be used. In particular, the activities of IRAs must be related to the fundamental purpose of the account, and that means to make investments. Borrowing money to make investments, however, is called out as an activity that’s at odds with the fundamental investment purpose.

As a result, when an IRA borrows money, the investment gains that result from that borrowing are considered to be unrelated business taxable income (or “UBTI”), which means that you’ll face a current year tax bill because of your investment borrowing. In many cases, this can greatly reduce or even exceed the advantages you gain by taking out a mortgage.

Investment Quality

If you choose to borrow money within your self-directed IRA in order to invest in real estate, be sure you are doing so because you are presented with a quality investment opportunity, rather than simply because interest rates are low. You should have a plan for how each piece of property you acquire is going to become a productive part of your portfolio, and your anticipated timeframe for that to occur.

Note that this doesn’t necessarily mean every piece of investment property you acquire needs to be productive right away. “Fixer uppers” are certainly appropriate for investment; just be sure you take into account any repair or remodeling costs into your financial analysis.

Fees

Regardless of how you choose to use your self-directed IRA to acquire investment properties, you should have a comprehensive understanding of the costs and fees that come with holding the property. For example, many real estate investors will tell you that as they build larger portfolios of property, they find that their costs on a per property basis tend to decline. This is because they are able to leverage certain economies of scale when it comes to property managers, repair and maintenance professionals, and other types of support they need in maintaining those properties.

Low interest rates can be a factor in deciding whether or not to buy investment real estate with your self-directed IRA, but it should not be the only factor.