updated 9/2/2008 3:14:28 PM ET 2008-09-02T19:14:28

There's some sentiment that a government rule that forces retirees to withdraw money from their IRA and 401(k) accounts when they turn 70 1/2 may need to be changed. That's because people are living longer and need to keep as much of their retirement money for as long as possible, said several financial advisers and a leader of the Senate Finance Committee.

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The required minimum distribution, or RMD, rules force tens of millions of retirees to take money out of their tax-deferred retirement accounts each year. The reason for the forced disbursement is simple — the government figures it's waited long enough for the taxes on that sheltered cash. The rule to force withdrawals, developed more than 20 years ago, also was intended to make sure that tax-deferred retirement accounts are used for their intended purpose and not by those who would accumulate money tax-free to pass on to heirs.

A persistent problem is that many seniors are caught off guard by the rules and end up paying a hefty penalty, of 50 percent of the amount that should be withdrawn, for failing to comply.

Bobby Brown, 78, a retired telephone worker in Fort Worth, Texas, said he and his wife, Priscilla, didn't want to take money out of their retirement accounts when their financial adviser told them they'd have to.

"We had no intention of using the money itself, but the government says you have to take it out or pay a big penalty," he said. "I didn't need it. I figure why mess with a wheel if it's not broken."

Brown, who represents retirees of the Communication Workers of America union on regional and national boards, said his financial adviser prepared him in advance for the distribution.

Now, he tells the union retirees he represents to be sure they're ready for the RMD.

According to the Investment Company Institute, a trade group, about $4.7 trillion was held in IRA accounts last year. Most of that amount, about 89 percent, was held in traditional IRAs that must comply with the minimum distribution rules.

The group also said 46.2 million Americans own IRAs, and six out of 10 households owning traditional IRAs that made withdrawals in 2006 did so just to satisfy the RMD requirement.

In terms of tax revenue, the IRS couldn't provide the exact number of people who must comply annually with the RMD rule or give figures for how much money it collects from mandatory distributions.

Individual requirements
The amount that an account holder is required to withdraw is based on the amount of savings in the tax-deferred account divided by the retiree's life expectancy, as estimated by the government. The details and tables can be found in IRS publication 590.

People who aren't actively managing their retirement savings may forget to take money out when they should and lose thousands of dollars to the government's penalty.

Many who miss the first withdrawal are forced to take two the next year, which frequently puts them in a higher tax bracket, costing them even more, advisers say.

"These are some of the more complex tax rules in existence, and some custodians, and even some tax pros, may get the RMD wrong," said Jeremy Welther, a financial adviser in Morristown, N.J. "It's amazing how many people don't take their RMDs, sometimes for years."

The IRS says retirees are to be notified by their bank or other financial institution holding the retirement account of the required distribution, but notices may be sent with other information, and might get lost in the mix or may not sink in.

Brian Breidenbach, a financial adviser in Louisville, Ky., views the required annual distribution as an additional burden the government places on retirees who frequently have health care concerns and other issues to worry about.

"The inevitability is there, that money in that IRA is eventually going to be paid out to them in some form of taxes so I don't see why the creation of just having a way to try to speed that up," he said.

Possible reform
J. Mark Iwry, a senior fellow at the Brookings Institution and a former Treasury Department attorney, said he favors changes to the RMD rules.

"Exempting individuals whose account balances are below a specified threshold could spare millions of people from having to comply without compromising the main purpose of this provision," he said.

Attempts were made to establish a threshold amount in 1998 when a bipartisan bill emerged in the House to eliminate the required distribution from accounts under $300,000, and raise the compliance age to 75. The figure was later lowered to $100,000 but the bill failed to gain traction after government economists estimated it would have cost billions of dollars in lost tax revenue. Similar proposals were rolled out again as recently as 2005 but again failed to move forward.

Iwry adds that increasing the age is not the best solution because people shouldn't have to deal with a forced distribution, even at 75, if they have not saved a lot of money.

Sen. Charles Grassley, R-Iowa, ranking member of the Senate Finance Committee said the law should be simplified and he would consider pushing the age back.

"We haven't reviewed this in a long time and it needs to be reviewed in light of the fact that people are living longer," he said.

Manage accounts
Chad Terry, director for retirement solutions at Principal Financial Group Inc., a provider of retirement and investment services, recommends retirees consolidate multiple retirement accounts before they hit mandatory distribution age. That eliminates dealing with several companies administering multiple accounts and trying to figure out how much should be paid, and out of which account.

Cathy Pareto, who founded her own Miami area financial services company, said many clients resent the government's forced intrusion into their retirement savings.

"A great many have more than saved and feel this is kind of a burden. They think 'why do I have to go through this nonsense every year?'" Pareto said. "When I put it down on paper and if they start to hem and haw about having to do this, I say look buddy, this is what the penalty is going to be, take my advice, get this done."

Copyright 2008 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.

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