IRA Substantially Equal Periodic Payments(Section 72(t)

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General

IRA owners under the age of 59 1/2 can avoid the 10% early withdrawal penalty for IRA distributions if they elect to withdraw the funds by using a series of substantially equal periodic payments.

The payments must continue for a period of five years or until 59 1/2, whichever comes later.

The 72(t) election must be made in writing with a custodian or trustee and is made on an account by account basis. An election on one account does not affect any other account. For purposes of the rule, an account is a signed IRA agreement.

Information for this election is found in IRS Notice 89-25 and in Revenue Ruling 2002-62.

Death or disability cancel the election and requirement to take substantially equal periodic payments.

Payment Methods

Payments that would satisfy the required minimum distribution rules for IRAs. Under this method the amount of the distribution changes each year.

The account balance may be amortized using a life expectancy factor at an interest rate that doesn’t exceed 120 percent of the mid-term federal rate for either of the two months immediately preceding the month in which the distribution begins. Under this method the amount of the distribution is the same each year--think car payment.

The account balance may be annualized by dividing the account balance by an annuity factor. A mortality table which is part of Revenue Ruling 2002-62 and an interest rate that doesn’t exceed 120 percent of the mid-term federal rate for either of the two months immediately preceding the month in which the distribution begins must be used. Under this method the amount of the distribution is the same each year.

Several private letter rulings have been issued allowing those using the amortization or annuity method to annually recalculate payments. Keep in mind that private letter rulings cannot be used a precedent--meaning that if you want to recalculate you need to get a private letter ruling.

Anyone using the amortization or the annuity method can switch to the required distribution method without penalty--but only once per lifetime, per 72(t) election.

Life Expectancy

Notice 89-25 specifically states “single or joint life.” This rule was changed in Revenue Ruling 2002-62 to include the Uniform table.

New life expectancy tables were released with the final required distribution regulations and must be used for the purposes of these rules beginning in 2003 for new calculations.

Anyone using joint life must use the life expectancy of the oldest beneficiary in the calculation.

Payment Periods

Individual retirement account owners who elect a series of substantially equal periodic payments must comply with the “five year or 59 1/2 rule.”

If the payments are modified in any manner the IRA owner is liable for recapture of the 10% early withdrawal penalty for all payments taken under this exception. In this writer’s opinion a modification includes:

• Not taking a distribution.

• Taking more or less than the calculated amount.

• Increasing or decreasing the account balance other than by taking the required amount or by earnings or losses. This point is controversial. Some suggest that the IRS didn’t mean what they said. I disagree. I think the IRS meant exactly what they said.

Other Rules

Anyone who has depleted all of the funds in their IRA before satisfying the 5 year/59 1/2 rule will not be penalized.

Cost of living adjustments (COLAs) to the amount of the calculated distribution are not permitted.

Substantially equal periodic payments cannot be rolled-over; however, once a substantially equal periodic payment is taken, that payment could be used to make an annual IRA contribution to a traditional or Roth by an eligible individual.

Those receiving a series of substantially equal periodic payments under section 72(t) are allowed to convert to a Roth account.

The conversion is not subject to the 10% additional tax,nor does the conversion trigger recapture of the 10% additional tax for prior years.

The series of substantially equal periodic payments must continue to be distributed from the Roth account after the conversion and the payments will be subject to income acceleration if income reporting is being deferred.

If the original series of payments does not continue or is modified, the taxpayer will be subject to recapture of the 10% additional tax.

An individual taking payments under Section 72(t) can move his IRA to another custodian or trustee. The only caution is that the individual must continue taking the 72(t) payment from the account with the new custodian or trustee.


Go to Rev Ruling 2002-62
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