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August, 2018

Take Distribution from Pension Plan or IRA?

IRA Custodian’s Question
We had a customer come to one of our branches. In her divorce her husband has to pay her half of his retirement plan he has elsewhere. Our customer has no intensions of leaving the funds in a IRA as she says she need the funds.

Are we required to open an IRA for her to accept the funds and then just turn around and charge her our fees
to close immediately?

CWF’s Guidance
There is no law requiring a bank to set up an IRA for someone if it knows the IRA will be closed immediately. In order for the bank to charge a fee you would have to provide the IRA disclosure statement more than 7 days prior to when she opens the new IRA. Under the 7 day revocation rule, the bank is not allowed to assess any type of fee when the IRA plan agreement and disclosure statement are furnished simultaneously and the IRA owner exercise their revocation right.

She will want to consider the following. I am assuming the retirement plan document provides she is eligible for an immediate distribution. The plan administrator will inform her whether she is eligible for an immediate distribution.

How old is she? Over 59½ or under?

The retirement plan must furnish her a distribution form/booklet. She must be given the following three options. She has the right to take a cash distribution, do a direct rollover to an IRA or a combination of the two. If she wants to be paid cash, the plan must withhold 20% of the distribution because she is eligible to directly rollover her funds into an IRA.

Whether she takes a distribution from the retirement plan or the IRA she must include the withdrawn amount in income and she will pay tax at a marginal tax rate which applies to her. The 20% which is withheld is only an estimate of her tax liability.

In my opinion if she is under age 59½ she wants to be paid cash from the retirement plan because the 10% tax does not apply when funds are withdrawn from a pension plan on account of divorce. This is not the rule if she takes a distribution form her IRA. She will also owe the 10% additional tax. Divorce is not an exception to the 10% tax for an IRA distribution.

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