mo vs. annual int rates

L1: mo vs. annual int ratesCan anyone tell me why there are different rates for a monthly distribution vs. an annual? The only rate I ever see referenced is the 120% – used for an annual distribution – but if I opt to take monthly distributions – why should the rate be different?2004-07-19 21:11, By: smp, IP: [24.194.9.180]
L2: mo vs. annual int ratesThe defference is a function of a concept called the ‘time value of money.’ I’ll let the CPAs explain this more fully.
Jim2004-07-20 08:42, By: Jim, IP: [68.225.115.136]

L2: mo vs. annual int ratesApplicable Federal Rates are used in easily 2 dozen different code sections for different valuation / discounting purposes; IRC 72(t) being just one of them. Annual rates are always used for 72(t) purposes; particularly 120% of the mid-term rate in terms of setting a maximum allowable rate; even though a taxpayer may actually take distributions at a different intra-year frequency.
There is actually logic here. 72(t)(2)(A)(iv)says “not less frequently than annually” Through time and analysis of rulings as well as the original committee reports; this phrase has resulted in two interpretations:
1. The obvious, a taxpayer must take at least one distribution per tax year.
2. More importantly, this phrase precludes the IRS from making any intra-year rules or interpretations; therefore everything you see coming from the IRS (rulings, examples, etc.) always uses annual rates and presumes one annual distribution at the end of each tax period.
As to why intra-year rates are different is a simple mathematical execise based on the time value of money; e.g. monthy distributions leave less of the corpus at work to create earnings than one end-of-year distribution.
TheBadger
wjstecker@wispertel.net
2004-07-20 09:37, By: TheBadger, IP: [66.250.23.21]

L2: mo vs. annual int ratesThanks for the information. After discussing info with my financial advisor, he indicates that I must the monthly rate if I take the monthly payments – which I do. The annual sum of money distributed using the monthly rate is higher (not by much) because of the time value of money – even though the rate is lower. I understand all that. My concern – am I in violation using the monthly rate – if for no other reason because it produces a larger annual distribution than if I use the correct (higher) annual rate?2004-07-21 07:49, By: smp, IP: [24.194.9.180]

L2: mo vs. annual int ratesAdmittedly, I have never tested 100% of all of the mid-term annual rates versus the monthly rates; however, I smell both a logic error and a math error here. Let’s tackle the potential math error first. Assume $100,000 IRA with a life expectancy of 30 years. The June 120% mt/afr annual rate is 4.67%; the monthly rate is 4.58%.
The annual computation is “@pmt(100000,.0467,30)” equalling $6262.51 per annum or $521.88 per month.
The monthly computation is “@pmt(100000,.0458/12,360) equalling $511.45 per month or $6137.40 per annum.
In short, I fail to see how your advisor can get a higher monthly or annual distribution using the monthly rates than the annual rates. I beleive it to be mathematically impossible. However, the math differences are pretty minor, only $10 per month or so per $100k, I have never seen a monthly rate higher than an annual rate which would be required to case a monthly calculation to produce a higher result.
On the theory level, I have to suggest:
1. Logically, if one wants to take monthly distributions, then performing monthly mathematics and using the monthly AFRs makes immenient logical & good sense. However, who ever said the IRC was logical.
2. Conversely, the IRS (essentially the final arbiter on this issue) has said the reverse — they say (and their FAQ examples and rulings are replete and consistent on this point) perform annual mathematics only; then, if the taxpayer so choses to take equal monthly payments simply divide the annual distribution amount by 12.
If I were you, I would challenge your financial advisor on these issues; not that they are huge in a financial sense but may lead to other more fundamental issues.
TheBadger
wjstecker@wispertel.net
2004-07-21 08:13, By: TheBadger, IP: [66.250.23.21]

L2: mo vs. annual int ratesI agree with Bill – taking payments monthly using a monthly rate (which isn’t required) should not result in a higher payment.
You better check your advisors math.2004-07-21 08:32, By: Gfw, IP: [172.16.7.101]

L2: mo vs. annual int ratesI am always suspicious when a client uses the term “my advisor”. Advisor relative to what set of specific issues? In the instant case is smp’s “advisor” a securities salesperson that is simply attempting, in a tangential way, to offer 72(t) advice? I urge all who are seriously researching 72(t) not to use a commissioned broker to also furnish SEPP advice. My recommendation is to use a securties broker to execute trades and a fee-only 72(t) specialist to establish a SEPP.
Peace and Hope,
Joel L. Frank2004-07-21 11:02, By: Redwoods, IP: [67.80.22.51]

L2: mo vs. annual int ratesJoel:
I have struggled all day trying to figure out a way to respond to your last post here. I’m going to try to be tactful so please don’t be offended when I disagree with what seems to be your premise that people who are compensated for their services through commissions are somehow ‘bad’ people.
I am classified as an Investment Advisor Representative of a Registered Investment Advisor which is governed by the Investment Advisors Act of 1940. As such I am legally authorized to charge a fee for my services and collect on-going fees for assets under management. I am also a Registered Representative of a Broker / Dealer governed by the rules of the NASD, which is ultimately governed by the SEC. As a Registered Rep I am compensated by commissions from the various investment products my clients purchase. How I am compensated should not be an issue if I am providing sound advise for my clients.
With the tools now available from this web site and from many of the investment product sponsors to calculate the correct pay-out for a 72(t), it’s not hard to set one up, once you understand the concepts. And when you have questions you can refer to Bill Stecker’s book or ask questions on this forum to get a clear understanding of the issues. Once the SEPP is up and running, usually for monthly payouts for most people that I work with, there’s usually nothing to do but monitor the investments to be sure nothing blows up from that respect.
If a person can manage their own investments then they don’t need a financial advisor. Studies show that only about 10% of the population truly fit this category. When I find someone like this I am real quick to tell them they don’t need my services, wish them good luck, and send them on their way. But the majority of people do need and want my services which I am happy to provide for fair compensation whether it’s commission, fee, or a combination thereof.
I believe too much has been written in the press to create an incorrect impression of the securities industry. I’m not saying there aren’t some really ‘bad apples’ out there, but I believe most are fair and honest folks just trying to feed their families and raise their kids.
Thanks for listening and if I have offended you, I apologize in advance. But I felt my viewpoint needed to be expressed. And I hope Gordon doesn’t can my reply.
Jim2004-07-21 20:27, By: Jim, IP: [68.105.200.222]

L2: mo vs. annual int ratesHello Jim:
I am going to take the other side of this argument, but for different reasons. A broker who helps a client setup/create a SEPP plan is explicitly providing professional tax advice. This is not good for at least two reasons:
1. The broker may or may not know what (s)he is doing. Even presuming (s)he does, there are inevitably quirks in the taxpayer’s circumstances; 80% or more of the time those quirks are irrelevant; however, sometimes those quirks are enormous.
2. A broker (or even a CFP) is not qualified and is not licensed to provide professioanl tax advice. More importantly, when a professional in a sibling or related industry; e.g. a broker providing tax advice, strays over ther line (and adnittedly the line is not always easy to see), that professional most often instantly becomes uninsured for professional errors. Said another way, the broker who orally or in writing provides professional tax advice on a SEPP plan which turns out to be wrong is liable for that error & will result in a denied claim from the broker’s insurer.
These issues have nothing to do with being a “bad apple” of which there are plenty in all professions; rather, it is a inadvertent error, albeit an error nonetheless that puts the professional and his/her organization at risk to the client primarily becuase the professional acted, most likely in good faith, but erred outdside the scope of his/her professional licensing.
TheBadger
wjstecker@wispertel.net
P.S. This is why I never, ever provide investment decision-making advice. I am not licensed to do it; thus, if I err, I am naked to extent that a client is injured as a result of relying upon that advice.
2004-07-21 21:22, By: TheBadger, IP: [66.250.23.21]

L2: mo vs. annual int ratesBill:
Are you saying that anyone comtemplating a SEPP plan needs to seek “professional advice” ?
2004-07-22 08:02, By: GT, IP: [24.145.164.87]

L2: mo vs. annual int ratesI’ll wait for Bill’s response to Gordon to post my reply. We might even start a new string for this subject.
Jim2004-07-22 08:12, By: Jim, IP: [68.225.115.136]

L2: mo vs. annual int ratesNot at all. My experience is that people fit into three categories:
1. 70% of the time, the design & implementation of a SEPP plan is very straightforward & the taxpayer needs little or no help; e.g. one SEPP plan, one account, a trustee/custodian that concurs (or at least does not provide conflicting information); check the box type form to set it up with the trustee,etc.
2. 10% of the time, the design & implementation of the plan may still be straightforward; however, the taxpayer is uncomfortable / uncertain or otherwise has that little bell going off that says “I am not 100% sure”.
3. 20% of the time, the plan(s) are NOT straightforward; there are unusual facts &circumstances; a reclacitrant/stubborn trustee, etc.
All I was suggesting inmy previous post is that when the taxpayer does need help (situations 2& 3 above); get that help from the right place. Your brother-in-law, barber, securities broker, CFP, banker, even your current custodian/trustee& insurance personare all WRONG places.Each of these sources are dangerous for 2 reasons: (a) they may or may not really know what they are saying/doing, albeit well intentioned; (b) if they err, they are uninsured.
To the best of my knowledge there are only two sources that are licensed to opine on a SEPP: a CPA ora tax attorney. Further, most (its never 100% in any profession) CPAs and tax attorneys know when to tell a client that they are qualified and when they are not and will forward the client onto some one with the expertise. Lastly, whether expert or not, when a CPA or tax attorney opines on a SEPP plan, they are licensed and insured to do so; thus, if, per chance, they err, they are insured and the client has a “bank of sorts” from which to claim damages.
As I have always said, buy the book, read it, make some plans, figure out which fo the three categories you fit into. If you are in 2 or 3; go shopping for a professional. Further, at this point, hiring the right professional is very easy; you have a knowledge base that makes it easy to test/interview the professional to see if (s)he has the requisite skills.
TheBadger
wjstecker@wispertel.net
2004-07-22 08:30, By: TheBadger, IP: [66.250.23.21]

L2: mo vs. annual int ratesGood morning Bill:Last week was busy and now I have time to respond.I agree with you 100% that professional liability is a problem. And I agree that most SEPP situations are straight-forward and easy to set up. No, I am not in the tax advice or legal advice business, and do not provide such. But here is my quandary. The CPA’s in the area, whose business it is to give tax advice, don’t know enough about 72(t) to put one together. They do know that I and a few select investment advisors are more knowledgeable about the subject than they are, so they call us with their questions. From what I can tell there are no local CPA’s willing to invest the time and energy to become proficient about the subject. Suggestions?Now I get to disagree with you on one point. In your P.S. you stated that you are not licensed to give investment decision-making advice.’ The Investment Advisors Act of 1940 governs this subject and requires registration of all investment Advisors,’whether someone is a one-person shop’ or the advisor to a large mutual fund. There are some exceptions, and I’m not going to comment on the logic of the exceptions. But, one of the exceptions is a group of people known collectively as Certified Public Accountants or CPA’s. Now your professional insurance may say you can’t give investment advice, but the Act of 1940 gives you this latitude. And from our discussions, I would say you would make a good investment advisor.’Jim2004-07-26 09:14, By: Jim, IP: [68.225.115.136]

L2: mo vs. annual int ratesHello Jim:
I will be the 1st to admit that the average taxpayer (and even investment advisors) have difficulty finding and engaging competent/expert counsel in the 72(t) arena. If I were to hazard a guess, there might be two dozen CPAs or attorneys in the nation that specialize in this area; thus the probability of one being in the necessary locale for face-to-face interaction is statistically rather low. However, as an aside, I probably perform 50 or more SEPP/72(t) engagements per year and only meet a client face-to-face by accident.
This is why I wrote the book. Actually for two reasons: (1) For the 70% – 80%, it provides a knowledge base so that they can go forward to bake their own cake۝ with a decent recipe; (2) for the 20% or more that do need help, it: (a) creates/identifies the triggers that causes the recognition that they do need help; and (b) provides a roadmap for selecting that expert advice; albeit most often not locally.
Regarding investment advice, we clearly have a conflict of governing bodies. CPA code of ethics and my insurer effectively say NO; whereas you rightfully point out that the Investment Advisors Act of 1940 says YES. To whom should I listen? I am first and foremost a CPA and tax accountant; therefore I necessarily lean to the former. I also like being insured bumper-to-bumper۝ even though I have never had a claim. Lastly, I intellectually like the division of duties between tax counsel and investment advisory services and I think a lot of clients come to realize the value in this division.
TheBadger
wjstecker@wispertel.net
2004-07-26 10:04, By: TheBadger, IP: [66.250.23.21]

L2: mo vs. annual int ratesBill:
Very well said … and probably enough said on this subject to ‘put it to bed.’
Jim2004-07-26 10:25, By: Jim, IP: [68.225.115.136]

L2: mo vs. annual int ratesI have been following all the replies – and first of all – I want to say “thanks” All the information was useful and I took some of the suggestions to heart and have spoken to several CPA’s. Unfortunately, I found no one in my area that was an expert. I then downloaded Bill Steckers book and subscribed to the Slott newsletter.
1)Both were very informative and here’s where I’m at:
I will use the annual rate of 4.94% (July AFR), I will take monthly distributions pro-rated in 2004 my “stub” year, however, there seems to be a contradiction in the method. Although I see in several places that the amortization method will most likely produce the maximum distribution and 2 out of the 3 calculators I used agreed with that, the third calculator (Brentmark) shows the annuitization method higher. Is that possible? Why would it be different?
2) Although it looks as if a COLA can be built in – I see very little reference or support of the COLA addition. Is it a grey area?
Once again I’m looking for some help – thanks in advance. 2004-07-26 19:28, By: Smp, IP: [24.194.9.180]

L2: mo vs. annual int ratesHello Smp:
I talked to the people at Brentmark about the difference in computations. As near as I can tell; if you put a monthly frequency into the Brentmark software, they do a precise and mathematically correct computation. Conversely, the IRS examples simply take an annual number and divide by 12. The IRS method, although not as precise, is, in my opinion the correct method, and does yield a slightly higher number.
Regards COLAs we are essentially in no-man’s land at the moment. Prior to RR 2002-62 there was plenty of precedent for COLAs used in conjunction with the amortization or annuitization methods. However, the ruling has lots of “fixed” & “same amount each year” language in it. This runs contrary to the concept of an annually increasing distribtion which is definitionally not the same number each year.
Conversationally, I think the Service is open to COLAs, we are just waiting for some one to step up to the plate and seek a PLR on this subject.
TheBadger
wjstecker@wispertel.net
2004-07-26 19:48, By: TheBadger, IP: [66.250.23.21]

L2: mo vs. annual int rates>> the third calculator (Brentmark) shows the annuitization method higher. Is that possible? Why would it be different?
I don”t check Brentmark”s calculators, but I will refer you to the articles section… http://72t.net/MN_ArticlesShow.aspx?WA=44 for the article titled “Are our Calculators Accurate”. If you remain unsure, you may want to contact your tax/legal advisor and have them do the calculations.
>>Although it looks as if a COLA can be built in
At this point it is very Black-N-White, NO COLAs allowed. You can however file for your own PLR and request a COLA. Annual recalculation has been allowed in one PLR, but you can not rely on a PLR issued to another taxpayer.
2004-07-26 19:50, By: Gfw, IP: [172.16.1.70]