A study released last week by the Joint Economic Committee (JEC) of the House of Representatives points out problems with the current law requiring mandatory withdrawals from retirement plans which, in a declining stock market, result in seniors being required to reduce their retirement holdings much faster than they originally anticipated.

Hefty penalties on non-mandated withdrawals from Individual Retirement Accounts and other tax-deferred accounts such as 401(k)s discourage seniors from withdrawing their money when the market conditions are conducive to sound investment strategy. Retirement account owners who make early withdrawals from their accounts face a 10% penalty in addition to current tax on the withdrawn amount. Those who chose not to withdraw according to the mandated schedule face a 50% excise tax.

The study offers several possible solutions to the current problem.

• Repeal. JEC Chairman Jim Saxton (R-NJ) has introduced a bill in Congress (H.R. 1386) that proposes to completely repeal the requirement that owners of individual retirement plans begin mandatory withdrawals at age 70 1/2. If this bill were to pass, account owners would only be subject to income tax at the time money is withdrawn from the retirement account.
• Repeal with Recapture upon Transfer to Nonspouse. This option also repeals the requirement of the mandatory age 70 1/2 withdrawal age, with the stipulation that should the account owner die with a balance remaining in the account, the entire account balance would be subject to income tax at the time the account is passed on to any heir other than the owner's spouse. Current law provides for a withdrawal plan based on the life expectancy of the heir.
• Increase Minimum Age. Another proposal would increase the minimum age for mandatory withdrawals from an individual retirement account to age 75.
• Limited Exclusion. This proposal sets an exclusion limit on mandatory withdrawals, suggesting that any amount in individual retirement accounts that exceeds a stipulated ceiling (such as $500,000, for example) would be subject to a mandatory withdrawal schedule. Account balances under the stipulated amount would not be subject to the mandatory withdrawal.
• Allow Withdrawals Above the Minimum Required to be Credited to Future Minimum Withdrawal Requirements. Under this proposal, should an account owner withdraw more than the mandated amount in a single year, that amount should be credited to mandatory withdrawal amounts for the next year and future years until such time as the amount is used up. Under current law, future mandatory withdrawals are recalculated based on the revised balance in the account instead of allowing a direct credit against future withdrawals.
• Allow Losses to Apply to Capital Gains or Ordinary Income. This proposal suggests that any losses in an individual retirement plan be treated as capital losses. Thus, assets sold at a loss could be offset against capital gains or against ordinary income, up to specified limits.
• Grace Period. The final proposal allows for a specified grace period for seniors so that they would have some flexibility as to when they begin mandatory withdrawals from their retirement accounts. This option provides the account owner with the ability to choose when to begin withdrawals based on market conditions.