What happens when you take money out of your IRA or 401(k)?
In general, when you take money out of your IRA or 401K, some basic income tax rules apply. They are:
- Distributions are taxable immediately: In general, all distributions will be taxed in the year they come out of the plan. There is an exception when you roll over your distribution into another retirement plan or a traditional IRA within 60 days, or when your employer transfers the distribution directly into another plan or traditional IRA. Also, if you ask your employer transfers your retirement plan in to a Roth IRA (in contrast to a traditional IRA), the transfer will be treated as a conversion to a Roth IRA. You will be required to pay income tax in the year of the conversion on any pre-tax amounts that are transferred to the Roth IRA.
- Your basis is not taxable: If you made contributions to an IRA or 401(k) and you were not permitted to take a tax deduction on your tax return, then you will have what is called "basis" for tax purposes. You will not have to pay taxes on those amounts a second time when you take the money out of your plan. However, if you have a traditional IRA, your basis generally comes out pro rata, which means that every time you take a distribution, part of it is taxable and part of it is not.
- You don't have to withdraw cash: In general, when you take a distribution from an IRA, you may choose the assets you want to withdraw - you are not required to take cash.
- You may not claim a loss: You may not claim a loss on your tax return for any loss incurred inside your IRA or 401(k). Instead, you pay tax on each distribution based on the cash value or the fair market value of the property on the date it is distributed from the plan.
- Divorce or inheritance does not change the basic tax rules.
Please contact one of our IRA Experts at 800-472-0646 for more information.