Retirement Withdrawals or Distributions

Often, people forget that they withdrew some money from their 401K, or other retirement account.  Making a withdrawal is called "taking a distribution."  This distribution amount is generally considered income unless you rolled it over from one retirement account to another.  If you received money, it will generally be considered income.  In many cases, the financial institution will withhold 20% of the amount you withdraw, with the intent that, that amount should cover the taxes, and if that were your only income it could possibly be enough, however,
since the amount you withdraw is added to your other income, there is no real way of knowing if you withheld enough until your taxes are prepared.  You can ask your tax advisor to run a preliminary return on your estimated income to see what the tax implication will be.   This you should probably do before you make the withdrawal, so you can make adjustments before the transaction, and so that would need to be done during the tax year.  



So even if that 20% has been withheld, in many cases, a withdrawal from a retirement account will cause a penalty transaction, usually of 10%, and in most cases, folks did not take that into account, and so they get a not so pleasant surprise when they file their taxes.  There are several situations where the 10% penalty is waived, or can be waived, so talk with your tax advisor to make sure that you avoid the penalty if you qualify under any of the conditions.  


You should also be aware that if you rolled over money from a Traditional IRA to a ROTH IRA, you will be required to pay the taxes on that conversion during that tax year.  So in that case you would not actually have received any money, but the conversion was a taxable transaction.



The input document that you receive for a retirement distribution is generally a 1099-R.  If you do not receive one in the mail, go online to your financial institution and look for the link to tax documents.


Forgetting to include this information on your tax return can really give you heartburn.  Since this is income, it almost always means that you underestimated your taxes due, and if you forgot to include that income, you may not remember until a couple of years down the road, when you get a "reminder" from the IRS which comes with all the penalties and interest that have accumulated during the interval between when you filed your taxes and when they actually reviewed your return.   Yes, get the heartburn medicine out....