How Should You Use Retirement Plan Distributions?
During your working years, you are (hopefully) putting money into your IRA and your 401(k) or similar employer sponsored retirement plan. But once you’ve retired, how can
you maximize the benefits you get from these plans?
First of all, you need to be aware of the rules governing withdrawals from your retirement plans. If you are older than 59½, you can withdraw money from your traditional IRA
without paying penalties, though the withdrawals will typically be taxable. But once you reach 70½, you generally must start taking “required minimum distributions” (RMDs) from these accounts, with the annual amount determined by your age, the account balance and other factors. (The situation is different with a Roth IRA. If you are the original account holder, you are not required to withdraw funds from your Roth IRA at any age. You can choose to withdraw your contributions at any time, tax and penalty free. To withdraw your earnings tax and penalty free, you generally must have owned the account for at least five years and have reached age 59½.)
So, assuming you do have a traditional IRA and a 401(k) or similar plan, what should you do with the RMDs? You’ll probably require at least some of these distributions for your living expenses, but if you don’t need it all, what should you do with the “excess”?
Here’s one suggestion: As part of your overall retirement investment portfolio strategy, you can reinvest the money into these three “buckets”:
Near-term income bucket – For this bucket, you’re not concerned with high returns – you just want the money to be there when you need it for expenses and unexpected costs, such as a major car repair, a new furnace, and so on. It’s always a good idea to have an emergency fund containing three to six months’ worth of living expenses – and your short-term income bucket could be an ideal source to help build such a fund.
Medium-term income bucket – During retirement, you can probably never have too many sources of income, so you may want to fill a bucket with intermediate- and long-term bonds, which make regular interest payments.