Life and Death Planning for Retirement Benefits

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CHAPTER 2: INCOME TAX ISSUES
How federal income taxes apply to retirement benefits, including
special income tax deals such as NUA and LSD, rollovers, and tax
withholding rules.
This Chapter examines all aspects of the federal income tax treatment of retirement benefits
payable under defined contribution plans, except the following: “Income in Respect of a Decedent”
(IRD; see ¶ 4.6); fiduciary income taxes (¶ 6.5, ¶ 7.4); the tax on “unrelated business taxable
income” and IRA losses . This book does not cover state income taxes or income
tax treatment of qualified or nonqualified annuities.
2.1 Income Tax Treatment: General & Miscellaneous
Tax-sheltered investment accumulation is the main attraction of retirement plans.
explained how long that tax-sheltered accumulation can last. We now turn to how benefits are
subjected to federal income tax once they are distributed (or deemed distributed) from a qualified
retirement plan (QRP), IRA, or 403(b) plan
2.1.01 Plan distributions taxable as ordinary income
There are exceptions to the General Rule: For how a retirement benefit can be taxable even
without a distribution’s occurring, see Regarding who is liable for the tax, see
For distributions that are nontaxable, or that are taxed more favorably than as “ordinary income,”
see
Here is how we arrive at the General Rule. governs income taxation of
distributions from qualified retirement plans (QRPs). provides that, except as otherwise
provided in “any amount actually distributed to any distributee by any employees’ trust
described in section 401(a) ...shall be taxable to the distributee, in the taxable year of the distributee
in which distributed, under section 72 (relating to annuities).” Emphasis added.
provides similarly for distributions from IRAs, as does for 403(b)
plans.
If cash is distributed, the amount of cash distributed is the “amount actually distributed.”
If property is distributed, the “amount ...distributed” is generally the fair market value of the
property. Reg. Notice 89-25, 1989-1 C.B. 662, A-10. For exceptions, see
G) (annuity contract) and (employer stock).
If the distribution occurs after the participant’s death, it is also subject to the rules of
governing “income in respect of a decedent” (IRD); se
The General Rule
A distribution from a retirement plan is taxable as ordinary income to the
participant whose plan it is or (in the case of distributions after the participant’s death)
to the beneficiary who receives such distribution