5 year rule vs 5 annual payments
L1: 5 year rule vs 5 annual paymentsI thought I understood the rules regarding what can be withdrawn in the last year of a SEPP after 5 annual payments have been taken. But after reading FAQ: Assuming the 5 year rule, when can payments be modified?now I”m not so sure.
Here”s my situation. I was 57 in May ”08 and plan to take my first distribution from my SEPP IRA in Sept ”08.I will most likely take a full annual distribution of $60,000 at that time. Then in 2009 – through 2012 I will take annual distributions totaling $60,000 each year. By the end of December 2012I will have taken 5 annual payments of $60,000 each but my SEPP plan under the 5 year rule doesn”t end till Sept 2013, plus 2 days after the date of first distribution.
The question is; what can I, should I, must I, withdraw from the SEPP IRA in 2013? I want to be sure I don”t bust the plan in the last year and some of the answers to postings and the FAQ I referred to has left me confused.2008-08-20 14:12, By: Bob Mac, IP: [188.8.131.52]
L2: 5 year rule vs 5 annual paymentsJust remember that the 5 years isn”t over until the entire 5 years has passed.
If you are taking annual distributions and makethe fifthannual distribution in September 2012 (I didn”t check your dates) then merely make no additional distributions until October 2013 – since you didn”t include exact days, I”ll merely round to months. 2008-08-20 14:35, By: Gfw, IP: [184.108.40.206]
L2: 5 year rule vs 5 annual paymentsGfw, appreciate the fast response but your replyonly provides a partial answer. Since I”ve already taken 5 annual payments by December 2012 I understand I don”t HAVE to take any distributions between January & Sept 2013.
But what if I wanted to take distributions in 2013. Without busting the SEPP could I take $5,000/month from January through Septor could I take another $60,000 inMarch ”08? I thought I could take any amounton any schedule as long as I didn”t exceed the total annual amount of $60,000. I”m still confused as to my options.thanks.2008-08-20 15:37, By: Bob Mac, IP: [220.127.116.11]
L2: 5 year rule vs 5 annual payments>>I understand I don”t HAVE to take any distributions between January & Sept 2013It”s not that you don”t have to take an payments, it is that you can”t take any additional payments.
What you are planning will bust the plan. Basedon yourinitial post, you are subject to the 5-year rule which throws the 59.5 rule out the window. Until the end of 5-years, you can take 5 annual payments – no more and no less. The 5 years ends around October 2013, not January 2013.2008-08-20 15:47, By: Gfw, IP: [18.104.22.168]
L2: 5 year rule vs 5 annual paymentsGfw, I think there must be a basic SEPP rule that I don”t understand. I thought byannual distribution it meant withdrawing the same amount each calendar year, from January through December.Because I plan to start in Sept ”08 I get to choose either a pro-rated 4/12 distribution ($20,000)or taking the full amount of $60,000 all at once.
I would take distributions in each calendar year, 2009-2012. When I get to 2013 why can”t I take another distribution between January and Sept without busting the plan? And then choose to stop the SEPP by taking no distribution in 2014. I thought you had to let the SEPPrun at least 5 years plus 1 day but could let it run longer before taking modified payments.
What do I not understand?thanks2008-08-20 20:31, By: Bob Mac, IP: [22.214.171.124]
L2: 5 year rule vs 5 annual paymentsBob,
I agree that the varyingfinal stub year situationscan be confusing, and if you search this site you will find that the final stub year with an age 59.5 modification date has options that do not exist with the final stub year with a 5 year periodmodification date. Another confusing concept is that the modification date of the SEPP is based solely on time periods, whereas the AMOUNT you can take in a given year is influenced by what you elected in your first stub year, ie. pro rated vrs full annual.
Accordingly, if you elect a full annual distribution this year, you end up with the situation gfw cited in 2013. However, if you took only 4 months worth this year, your modification date would not be changed, but you then would have to take the other 8 months worth in 2013 prior to Sept.
I really do not know “why” the options for a 5 year plan are different in the final year, but it can only relate to a combination of IRS letter rulings and notices over the last 20 years that suggest this is the case. In fact, my impression is that the IRS has been so reluctant to bust a plan in the final year as long as what the taxpayer does is not blatant, that I really doubt you would have a problem if you did withdraw 8 months worth in 2013. But I would not invite the added risk of testing fate and suggest you follow gfw”s advice as the safest option.
You are wise toinquire about this now, because knowing the situation may make your budgeting quite different in 2012 and 2013 should you choose not to risk taking any distributions for the first 9 months of 2013.2008-08-20 21:53, By: Alan S., IP: [126.96.36.199]
L2: 5 year rule vs 5 annual paymentsThe 5-year rule is based on a tax court case… Arnold vs IRS. That case is very similiar to what is being described. Arnold received his 5 payments and then took a little extra – tax courtagreed with the IRS that it wasa modification.From our FAQ:
Q. Assuming the 5-Year rule, when can payments be modified? A. In 1998, a tax court held that a payment received by a taxpayer after he received five equal annual installments and after he reached age 59-1/2 was a modification of the Substantially Equal Periodic Payments. The Court held that the modification occurred within the 5-year period beginning with the first payment, thus triggering the recapture of the 10-percent penalty tax. The Service argued that the 5-year period began with the first distribution and ran until the end of the 5th year. The tax court agreed – the 5-year period closes at the end of the 5 years beginning with the first distribution, and does not end on the date of the 5th annual distribution. Arnold v. Comm., 111 TC No. 12 (1998).
2008-08-21 04:15, By: Gfw, IP: [188.8.131.52]
L2: 5 year rule vs 5 annual paymentsGfw and Alan S, thank youboth for making this complex area, the stub year, more understandable.It was actually the FAQ “Assuming the 5-Year rule, when can payments be modified?”,referenced in Gfw”s response, that caused me to ask my question.
I definitely plan to have a tax professional validate my SEPP plan. thanks again.2008-08-21 08:26, By: Bob Mac, IP: [184.108.40.206]
L2: 5 year rule vs 5 annual paymentsHello Bob Mac:
Gordon is 100% correct in that the defining law on this issue is found in Arnold v. Commissioner. The tax court defined the 5 year period as commencing with the date of the 1st distribution (let”s say 9/1/08 in your case) and ending 1868 days later; e.g. 9/1/13. However, simply understanding what a 5 year period constitutes is not enough. The key is that NO non-SEPP distributions may occur within the 5 year period as that would constitute a modification thus invoking the 10% surtax plus interest. Conversely, any and all SEPP distributions during the 5 year period are fine. As a result, you would actually havde three options for the period 1/1/13 to 9/1/13 as follows:
1. Distribute absolutely noithing.2. Distribute a full annual amount; $60,000.3. Distribute a prorata amount; $40,000.
In my opinion, any other amount distributed during that time period would constitiute a non-SEPP distribution amount.
The [email protected] 07:04, By: TheBadger, IP: [220.127.116.11]
L2: 5 year rule vs 5 annual paymentsThere is a conflict here with the stated distribution options in 2013 pre modification date, whether there is 3 options or whether the only option is -0- since 5 years worth have already been distributed by 12/31/2012.
I assumed that the difference was due to final stub year options that were different for a 5 year modification date than for an age 59.5 modification date. But there is no difference?
Right now Bob has two different conclusions, so he is probably still confused. Or I might be missing something……..2008-08-23 16:14, By: Alan S., IP: [18.104.22.168]
L2: 5 year rule vs 5 annual paymentsAlan S., you are correct. I”m very much confused by the opposing answers.2008-08-23 19:47, By: Bob Mac, IP: [22.214.171.124]
L2: 5 year rule vs 5 annual paymentsHello Alan:
I think you are a bit confused. Arnold v Commissioner gave us an undisputable and very clear definition of the 5-year rule; e.g. it starts on the date of the 1st distribution and ends 1828 days later. This case also told us that any “non-SEPP” distribution during this period constituted amodification under IRC 72(t)(4) thus invoking the 10% surtax plus interest. This case also told us that as long as all of the distributions during the SEPP period are SPP distributions then there is no modification. Now, with that definition inmind; the originalposter clearly has three alternatives:
1. Distribute zero (an option we all seem to agree upon)2. Distribute the full annual amount. This is also permitted in that it is a SEPP distribution amount; that given that year 6 is a bifurcated year; this amount might be properly distributed during the 1st nine months.3. Distribute a prorata amount; e.g. 9/12ths of the annual amount; using the same logic as 2 above.
I suspose there might be other amounts less than $60,000 (in this example) that could be justified as SEPP distributions; I simply can not think of them. Remember that the trigger in Arnold was that he took 5 annual distributions (let”s say of $60k each) in 39 months of calendar time; 12/x1, x2, x3, x4, 1/x5 claiming he was done in 1/x5. He then took another distribution in 6/x5. It weas this last / extra distribution in 6/x5 which thetax court ruled weas an extra, non-SEPP distribution within the SEPP period that invalidated / modified his plan.
Said another way, when looking at a plan we need only applya couple of tests:1. define the begin date and end date and call that interval the SEPP period.2. are 100% of the distributions made within the SEPP period correct; e.g. are they all SEPP distributions — yes or no.3. is there at least one distribution in every full calendar year— yes or no.
Any no”s and we have a “busted” or modified plan.
[email protected] 07:18, By: TheBadger, IP: [126.96.36.199]
L2: 5 year rule vs 5 annual paymentsHere is a nice summary of Arnold v. Comm”r from the 1999 CPA Journal. Pay particular attentions to the dates and distribution timing in the 4th paragraph.
2008-08-24 07:26, By: Gfw, IP: [188.8.131.52]
L2: 5 year rule vs 5 annual paymentsThanks, but please bear with me.There is a major difference in the Arnold case and Bob Mac”s question. I think we all agree on what the plan modification date is, but the issue is what constitutes a “non SEPP” distribution within the term of the plan.
In Arnold, he clearly took a non SEPP additional distribution in 1993 after he had already taken out the full annual amount in January. The busted plan is rather obvious. Arnold never even got into his final calendar year (1994), so the IRS conclusion does not even address his options in 1994 as he busted the plan in 1993.
In Bob”s case, his plan also includes 6 different calendar years as did Arnold”s, with a stub year on each end. Bob is therefore in the position that Arnold would have faced in January, 1994 if he had not already busted his plan in 1993. The attainment of age 59.5 within the 5 year SEPP period seems to be immaterial other than it separates the amount subject to penalty from the penalty free post 59.5 distributions.
Both of you agree that -0- in 2013 prior to Sept is an option, but the Badger indicates other options and gfw indicates NO other options if you go back to the first replies.
Given this situation, weDID have conflicting answers as to what Bob could distribute in 2013 (Jan-August), still within his 5 year SEPP period, but after distributing 5 years of payments.
2008-08-24 18:44, By: Alan S., IP: [184.108.40.206]
L2: 5 year rule vs 5 annual paymentsI”m a little more conservative than Bill. Assuming the payment schedule that follows, the five year period ends on 8/31/2013. Bill was using a SEPP payment and I was saying ANY payment.
8/31/2013Arnold received 5 annual payments and then took an extra payment before the end of the five years. The payment he took was clearly not a SEPP payment, but it was before the end of the5 years.
I”ll concede to Bill thatif it is a SEPP payment, that itmay not be considered a modification. At the same time, if it was me, I would wait until the expiration of the 5-year period before taking the additional payment.
2008-08-25 04:21, By: Gfw, IP: [220.127.116.11]
L2: 5 year rule vs 5 annual paymentsGfw, Alan S, and the Badger, I very much appreciate yoursharing your knowledge of72t complexities. It has been very helpful for me in understanding the pitfalls unless the plan is followed to the letter.But based on Gfw”s latest response I”m still confused as to what constitutes a “year” in a SEPP plan.
Is a year a “calendar year”, meaning Jan through Dec, or does a year start at the first distribution, say Sept 1, 2008 and end Aug 31, 2009. And then do subsequent years repeat, Sept 1, 20xx and end Aug 31, 2013, five years after the plan was initiated?
After seeing all your responses here”s how I see it.
We are dealing with two different views of a “year”. The first is the five year period which constitutes the period before you can modify the SEPP plan. Take my case for example; Sept 22, 2008 to Sept 24, 2013. During that period all my withdrawals must conform to the SEPP rules.
But the second view of ”year” is on a calendar basis, which is how I”m focused in thinking about withdrawals.
That leads me to believe the followingwithdrawals would meet SEPP rules.
Calendar year 1: Sept 22, 2008 – withdraw full annual amount of $60,000. Calendar year 2: Starting in January 2009withdraw $5,000 each month. I could also withdraw $15,000 quarterly or use a variety of withdrawal combinations that result in a total withdrawal of $60,000 for calendar year 2.
Calendar year 3(2010), calendar year 4(2011) and calendar year 5(2012), repeat calendar year 2.
Note: at this point the SEPP five year period still has almost nine more months to go, until Sept 24, 2013.
Calendar year 6: Options are:take no withdrawals until after Sept 24, 2013, continue taking $5,000 monthly through September, quarterly withdrawals of $15,000, or take a full annual withdrawal of $60,000 prior to Sept 24.Then in October take whatever amount I want to as the SEPP 5 year period has been completed.Note: I understand that Gfw recommends a conservative approach in calendar year 6, meaning take nothing prior to Sept 24.
This is what I understand from all your responses. Did I summarize it correctly?
2008-08-25 10:43, By: Bob Mac, IP: [18.104.22.168]
L2: 5 year rule vs 5 annual paymentsYes, good job.
There is one correction regarding the pro rated option for 2013. You started in Sept therefore you would end in August, ie 8 monthly distributions of 5,000. That agrees with the 40,000 shown by theBadger in his post. I would just avoid a distribution in Sept, 2013 altogether.
The IRS has been fairly lenient with final stub year distributions, in most cases agreeing with anything that is not an obvious violation. In Arnold, the violation was very obvious.
In summary, since everyone does agree with the -0- option in 2013 (prior to October), that would be your safest choice. But the other two options likely provide a very small increase in risk. 2008-08-25 13:25, By: Alan S., IP: [22.214.171.124]
L2: 5 year rule vs 5 annual paymentsI began my IRA in December 03.On January 04 I began taking $42k per year.My date of birth is 10/10/1949.I want to give myself a cost of living increase each month,when can I begin the increase without a penalty?
Thanks2008-08-31 05:33, By: donnie, IP: [126.96.36.199]
L2: 5 year rule vs 5 annual paymentsdonnie… You can give yourself an increase after your SEPP plan ends. You can use the Last Payment Date calculator to get the first payment modification date.2008-08-31 06:25, By: Gfw, IP: [188.8.131.52]
L2: 5 year rule vs 5 annual paymentsI assume that you meant that you took either $ 3,500 or $ 42,000 in Dec. 2003 when you say that you started it then.
Since you will be 59 1/2 after the 5 year period, you cannot take any additional distributions until after 4/10/2009 when you will be 59 1/2. However, since you will have taken 5 full years of distributions as of 12/31/2008, I think that your 2009 distributions until then could be $ 14,000 (4 x $ 3,500), or -0-, or $ 42,000.2008-08-31 12:28, By: dlzallestaxes, IP: [184.108.40.206]