Which Asset Categories to Liquidate First When Taking the IRA Minimum Required Distribution

If you're taking only the required minimum distributions from your IRA, you probably don't need the money. This is good, because it provides some discretion as to which asset categories you'll tap into for your distributions. While there are some general guidelines, which assets you should liquidate first may vary based on your individual situation. Remember that your first RMD must come out by April 1 following the year in which you turn 70 1/2 and by Dec. 31 of subsequent years.

Tap Cash First

Chances are you have some cash sitting in your IRA from bond or bond fund interest or non-reinvested dividends. Tapping your cash first makes sense for two reasons. First, it's readily available, allowing you to distribute the necessary funds to avoid tax penalties while you plan out future strategies. Second, your cash is probably getting the lowest return of all your IRA assets, meaning you'll lose the least in the way of deferred taxation.

Stocks and Stock Funds

Under current tax law, stocks and stock funds enjoy less of a benefit from the deferred tax treatment for IRAs. This is because all distributions from IRAs are taxed as ordinary income, while dividends and capital gains outside the plan could benefit from long-term capital gains tax rates. For tax year 2012, those rates ranged from 0 percent to 15 percent. Also, losses can't be used to offset gains. For that reason, absent changes to tax law, you may be better liquidating your stock next and reinvesting in stock outside your plan. You don't have to liquidate stock to take a distribution. However, two drawbacks to in-kind contributions are that it's difficult to take just your RMD and you have to keep careful records so you aren't taxed twice -- once on the distribution and again on the sale. The benefit of taking a poorly performing stock in-kind is that the basis becomes the value on the date of distribution. Should the stock price continue to drop, you can take advantage of your capital loss from that point.

Distribute Bonds Last

Bond income benefits the most from the deferred tax treatment of an IRA because, in or out of a plan, bond income is always taxed as ordinary income with no special treatment. As noted by CNN Money, Treasury inflation-protected securities benefit the most as their principal increases in line with inflation, meaning you'll want to defer taxes on those as long as you possibly can. Consequently, bonds and bond fund shares should be the last IRA assets you tap into for RMD.

Other Considerations

Before you make any decisions about what to liquidate for RMD, you should consider meeting with a financial and/or tax adviser to review your entire investment portfolio. For estate planning purposes, keep in mind that beneficiaries pay tax on IRA distributions as ordinary income, while they receive a step-up basis to your date of death on most assets outside the plan. For greatly appreciated assets within your plan, you may want to look at whose situation would lead to the biggest tax bite at distribution.

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About the Author

Nancy Cross is a certified paralegal who has worked as an employee benefits specialist and counseled employees on retirement preparation, including financial and estate planning. In addition to writing and editing, she runs a small business with her husband and is a certified personal trainer with the Aerobics and Fitness Association of America (AFAA).

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