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Early IRA Withdrawals via 72(t) Payments

Estimated reading time: 2 minutes, 3 seconds

Occasionally, clients ask if they should use 72(t) payments out of their IRAs. Generally, some hardship requires a client to take this course of action, as he or she does not otherwise qualify for an early withdrawal exception. Of course, Kingdom Trust cannot recommend any such decision with one’s retirement account. But this provides us an opportunity to present an introduction on 72(t) payments.

If you choose 72(t) payments, you can take IRA distributions and avoid the early distribution penalty (if under age 59½).

The substantially equal periodic payment (SEPP) rule allows you to withdraw funds from your IRA, penalty-free, if you follow certain rules. 26 U.S. Code §72(t) states that if distributions are made as part of a series of equal payments over your life expectancy or the life expectancies of you and your designated beneficiary, the early distribution tax does not apply. This section of the tax code is where we get the phrases “72(t) payments” and “SEPPs.”

You must make any necessary movements of funds or assets into or out of the IRA prior to establishing SEPPs. At that time, account activity is essentially locked down. You may only remove the 72(t) payments from the IRA until the deadline has passed.

So, what’s the deadline? When you begin taking the 72(t) payments, you must not modify the periodic payments within five years of the date of the first payment, or until you reach 59½, whichever is later. If you modify the payments, the 10% early distribution penalty tax would apply, excluding death, disability, and other exceptions.

There are ultimately three methods you may use for 72(t) payments:

  1. the required minimum distribution (RMD) method, resulting in a variable amount that must be recalculated each year based on the prior year’s ending balance and your age;
  2. the amortization method, resulting in a fixed amount based on your life expectancy, account balance, and reasonable interest rate; and
  3. the annuitization method, resulting in a fixed amount based on a life annuity factor, account balance, and reasonable interest rate.

With each method, you must use a life expectancy table (found in Publication 590-B). And for the amortization and annuitization method, the interest rate can not exceed 120%.

72(t) payments should certainly be discussed with your financial advisor and team of professionals. But if you and your team determine that 72(t) payments are right for you, Kingdom Trust will assist with the distribution paperwork to ensure you can begin receiving those scheduled payments at the earliest opportunity.

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