Traditional pension plans normally take the form of annuities. Many retired workers opt to roll money from other types of plans into annuities. You can also create an annuity with your Individual Retirement Arrangement (IRA) contributions. Annuities containing retirement funds are subject to federal tax laws, which means the annuity owners have to take required minimum distributions.
Required Minimum Distributions (RMDs)
You are required to begin to make withdrawals, that is, distributions, from your retirement accounts in the latter part of the year you turn 70 1/2 or the year in which you retire. If you own more than 5 percent of the firm that sponsors your retirement account, then you must take RMDs starting at age 70 1/2 even if still working. Likewise, you are required to start to withdraw from your IRA accounts at the age of 70 1/2 even if you have yet to retire. However, Roth IRAs, unlike other types of retirement accounts, are funded with your net earnings. Therefore Roth IRAs, including Roth annuities, are not subject to RMD rules.
The amount you must withdraw from your retirement annuity depends on your age, your marital status and the age of your spouse. Every year, the Internal Revenue Service publishes three tables that tell you how much you must withdraw from your retirement accounts. Withdrawals are based upon your life expectancy. If you are single, you must take withdrawals based upon the single life expectancy table. If married, you base your withdrawal amounts on the uniform lifetime table. However, you must use the joint and last survivor table to determine your RMDs if you are at least 10 years older than your spouse. The withdrawal amounts on the joint tables are designed to last for both of your lifetimes.
If you purchase an immediate annuity, you must ensure that the annual disbursements are large enough to satisfy your RMD requirements. If you buy a deferred annuity, the insurance company invests your money for a number of years during an accumulation phase. Generally, you can withdraw principal from a fixed annuity without incurring a penalty during this phase, so you should have no problems with RMDs from a fixed annuity account. However, variable annuities often include riders that guarantee you certain returns or future income if you make no withdrawals during the accumulation phase. You stand to lose these benefits if you make withdrawals before this phase ends, so ensure that you buy an RMD-friendly annuity, on which you can make withdrawals, if you are close to 70 1/2.
If your retirement annuity contains money that you invested in the account prior to 1987, then you do not have to begin taking RMDs on that money until you reach the age of 75. If you fail to satisfy RMD requirements, then you incur a tax penalty that amounts to 50 percent of your RMD. You pay this penalty along with any applicable federal and state income tax.
If you have multiple IRAs, you do not have to withdraw from all of the accounts, but you must withdraw enough money from some of the accounts to satisfy the RMD requirements for your IRAs as a whole. RMDs for other retirement accounts are counted separately and you cannot combine these with your IRA withdrawals.
- IRS: Retirement Plans FAQs Regarding Required Minimum Distributions; June 2011
- John Hancock: Minimum Distribution Rules
- Life and Health Adviser: Making IRAs Last a Lifetime With Annuities; Brandon Buckingham
- Internal Revenue Service (IRS). "Income ranges for determining IRA eligibility change for 2021." Accessed Nov. 2, 2020.
- Internal Revenue Service (IRS). "Traditional and Roth IRAs." Accessed June 26, 2020.
- Congress.gov. "H.R.1994 – 116th Congress (2019-2020)." Accessed July 17, 2020.
- Insurance Information Institute. "What Are the Different Types of Annuities?" Accessed June 26, 2020.
- Internal Revenue Service (IRS). "Topic No. 410 Pensions and Annuities." Accessed June 26, 2020.
- U.S. Securities and Exchange Commission. "Variable Annuities: What You Should Know," Pages 5-6. Accessed June 26, 2020.
- Internal Revenue Service. "Topic No. 410 Pensions and Annuities." Accessed July 17, 2020.
- Internal Revenue Service (IRS). "Designated Roth Accounts - Distributions." Accessed June 26, 2020.
- U.S. Securities and Exchange Commission. "Variable Annuity Fees and Expenses." Accessed June 26, 2020.