What are the ordering rules? Roth IRA distributions can consist of contributions, converted funds and earnings – or any combination of the three.
To determine what your distribution is, you must use “ordering rules” which dictate the order in which these categories of Roth IRA money must be withdrawn. All Roth IRAs are considered one Roth IRA for distribution purposes. A Roth IRA distribution will consist first of any Roth IRA contributions. If there are no contributions or those amounts are completely exhausted, the next funds out are converted funds. Once all converted funds have been exhausted, the remainder of the distributions will consist of earnings.
- Are you withdrawing a contribution? Roth IRA contributions are the annual amounts that you contribute to a Roth IRA account. A distribution of Roth IRA contributions will always be both tax and penalty free.
- Are you withdrawing converted amounts before age 59 ½? Converted funds are never subject to income tax. However, they will be subject to the 10% penalty for early distributions (unless an exception applies) if you are under 59 ½ and they have been in a Roth IRA for less than five years. Each conversion starts its own 10% PENALTY 5-year clock, and the converted amounts are withdrawn on a first-in, first-out basis.
- Are you withdrawing converted amounts after 5 years or age 59 ½? A distribution of converted funds after 5 years or after age 59 ½ will be entirely income tax and penalty free.
- Are you withdrawing earnings before age 59 ½? Earnings withdrawn prior to age 59 ½ are generally subject to income tax regardless of how long they’ve been in a Roth IRA account. Earnings withdrawn prior to age 59 ½ are also generally subject to the 10% penalty for early distributions unless an exception applies.
- Are you withdrawing earnings after age 59 ½ and 5 years? Earnings withdrawn after age 59 ½ are never subject to the 10% penalty. They may, however, be subject to income tax. If you have held a Roth IRA for more than 5 years, your earnings are tax free, if not, they are taxable at ordinary rates.
BFG Tax Service understands the impact taxes can have on your overall retirement plan and is well-versed in the minimization of taxes on retiree investments and income. Our in-house CPAs work closely with our wealth managers to help design a proactive tax plan and to prepare tax returns for pre-retirees and retirees.
If you have questions about your taxes and how it relates to your overall retirement plan, or need assistance in the preparation of your 2017 tax return (even if you aren’t a client of Barber Financial Group) call our office today at 913-393-1000 or click below to make your appointment.
If you’ve worked with BFG Tax Service in the past and haven’t yet set up your tax preparation meeting for this year, click below to make your appointment.
Copyright 2018 Ed Slott and Company, LLC – Written by Sarah Brenner, JD
Reprinted from The Slott Report, July 17, 2017, with permission.
Ed Slott and Company, LLC takes no responsibility for the current accuracy of this article.
Investment advisory services offered through Barber Financial Group, Inc., an SEC Registered Investment Adviser.
The views expressed represent the opinion of Barber Financial Group an SEC Registered Investment Advisor. Information provided is for illustrative purposes only and does not constitute investment, tax, or legal advice. Barber Financial Group does not accept any liability for the use of the information discussed. Consult with a qualified financial, legal, or tax professional prior to taking any action.