T-IRA withdraw/withhold to pay State Taxes - any catches?

[ERD50]

BACKGROUND (you can skip this): I'm starting my 2017 tax review, and realized I fell asleep at the wheel in one area, and did not have enough IL tax withheld (I do this through DW's paycheck). Reason being that for 2016 I went to the top of the 15% bracket with a large ROTH Conversion, and that is not taxable income in IL. Then I based the 2017 withholding on that number.

But this year I filled much of the 15% bracket with some LTGC harvesting (0% tax rate at Fed Level), and that is taxed at the IL State level. So I'm short enough there will probably be penalties.

I've learned (and did this for my MIL, and it worked out nicely), that any withholding from an IRA is treated as if it occurred evenly throughout the year, so you don't need to worry about quarterly payments, as long as that covered the total. So I was thinking I would initiate an IRA withdraw (I'm >59 1/2) of the amount of IL taxes I want to pre-pay, and set it to 100% withholding for IL. This should work. [/BACKGROUND]


The Real Question: Is there any rule I'm missing regarding making a withdraw from my T-IRA just to cover the withholding for IL state tax? I made a ROTH conversion in 2016 and a few earlier years.

I don't think there are any restrictions (like there are on taking money out of a ROTH after a conversion - 5 year rule I think?). I'm talking hundreds of dollars, not over a thousand, so I'm not concerned with paying the 15% Fed tax on that (which has to paid eventually). But man there are a lot of funky rules - am I missing some? Looks like IL underpayment penalty is 10% (on 90% of the underpayment?).

-ERD50

[youbet]

Quote:

Originally Posted by ERD50 [B] I've learned (and did this for my MIL, and it worked out nicely), that any withholding from an IRA is treated as if it occurred evenly throughout the year

withholding form any source is treated this way, not just IRA'S.

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Is there any rule I'm missing regarding making a withdraw from my T-IRA just to cover the withholding for IL state tax?

No. The Ill IRS will receive money from your brokerage house labeled "fed withholding" and will credit you for that.

You might be over complicating this.

[ERD50]

Quote:

Originally Posted by youbet withholding form any source is treated this way, not just IRA'S.

That is true. But it would be difficult/impossible to get enough withholding from DW's paychecks between now and year-end. And, she already complains that I take too much of 'her' money for taxes!

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Originally Posted by youbet No. The IRS will receive money from your brokerage house labeled "fed withholding" and will credit you for that. You might be over complicating this.

Well, "IL Withholding" in this case, but same concept.

Hopefully, I am over-complicating this. But there are so many interactions with tax laws, I figure asking here might be the prudent thing to do. I can't think of any reason why a T-IRA withdraw now would affect anything else tax-wise or IRA-wise, but reason seldom applies to tax law.

-ERD50

[RunningBum]

Given that IL doesn't tax IRA conversions to Roth or withdrawals (right? This sounded almost unbelievable to me but a quick Google confirms this), will they even accept withholding on an IRA withdrawal? And if they did, would they accept it on a Roth conversion, if you wanted to do that instead? And just confirm what you did for your MIL, you have confirmed that IL is like the fed in that withholding is treated as if it was done throughout the year?

Final question, how much of the LTCGs are you pushing into being taxed, such that you are being taxed 15% on the withdrawal + an extra 15% on those LTCGs being taxed? If it's most of it, isn't that extra 15% worse than the 10% state tax penalty?

I'd work a deal with the wife to have her boost her state withholding for the rest of the year. Certainly she could understand getting a transfer into her account (assuming she has one) from your joint pool in place of getting extra taxes withheld, wouldn't she?

[jazz4cash]

Your question motivated me to run a trial distribution request on my Fido T-IRA. I see that Fido defaults to 10% Fed w/h but I can also choose a higher amount or zero. The state w/h is 99% max so I would end up with 1% in some other account, so I guess that would be OK. The problem for me is driven by lack of state withholding by my credit unions as my CDs mature. I didn't anticipate this.

[RunningBum]

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Originally Posted by jazz4cash The problem for me is driven by lack of state withholding by my credit unions as my CDs mature. I didn't anticipate this.

CD maturing is just a return of capital and not a taxable event, so I don't know why you'd expect any withholding at that time. Taxes are owed on the monthly interest you've been getting.

[ERD50]

Quote:

Originally Posted by RunningBum Given that IL doesn't tax IRA conversions to Roth or withdrawals (right? This sounded almost unbelievable to me but a quick Google confirms this), will they even accept withholding on an IRA withdrawal? ...

Yes, they do (not tax them), it's treated the same as any (non-penalized) IRA distribution - it's not like they need the money or anything! But I'll take it - for now.

And I actually did this for my MIL this year, after verifying it with her tax guy. I just set it up online with a few clicks and entries, and it's done. Sure beats 8 checks, envelopes, stamps, and checking that it was actually withdrawn from the account (things do get lost in the mail - online you get instant, or at least next day feedback, I print-to-pdf the transaction so I've got proof).

Quote:

Originally Posted by RunningBum And if they did, would they accept it on a Roth conversion, if you wanted to do that instead? And just confirm what you did for your MIL, you have confirmed that IL is like the fed in that withholding is treated as if it was done throughout the year?

It might depend on the company, but I suspect "no". I asked about this for withdraws from my taxable account, and they said no. I guess they would do w/h on the gains, but you probably have to set that up across the account, not per transaction?

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Originally Posted by RunningBum Final question, how much of the LTCGs are you pushing into being taxed, such that you are being taxed 15% on the withdrawal + an extra 15% on those LTCGs being taxed? If it's most of it, isn't that extra 15% worse than the 10% state tax penalty?

No, within the 15% bracket, LTGCs are ZERO. At any rate, the 15% on the withdraw would be taxed later (and for me, probably at 25% rather than 15%) - you are missing out on sheltering any future gains. I'm still trying to get my head around all the various interactions on this and ROTH conversions.

Quote:

Originally Posted by RunningBum I'd work a deal with the wife to have her boost her state withholding for the rest of the year. Certainly she could understand getting a transfer into her account (assuming she has one) from your joint pool in place of getting extra taxes withheld, wouldn't she?

I don't think I could get enough withheld by year end. And I already have Fed & IL and her ROTH 403b taken out, the remaining take home pay is pretty tiny.

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Originally Posted by jazz4cash Your question motivated me to run a trial distribution request on my Fido T-IRA. I see that Fido defaults to 10% Fed w/h but I can also choose a higher amount or zero. The state w/h is 99% max so I would end up with 1% in some other account, so I guess that would be OK.

Thanks, I didn't realize they would limit state to 99%, but it's still Ok, just a little funny. For my MIL, it was something like 80% Fed, 16% state and the rest to her account.

-ERD50

[Clone]

I have done this several times to boost up the federal withholding. If I sell a lot of grain at harvest, then I will have more income and use a withdrawal with 80% going to the fed and 15% going to the state. It shows up on the 1099R as federal withheld taxes.

[jazz4cash]

Quote:

Originally Posted by RunningBum CD maturing is just a return of capital and not a taxable event, so I don't know why you'd expect any withholding at that time. Taxes are owed on the monthly interest you've been getting.

I should have specified these are part of an IRA CD ladder that I take distributions from for expenses.

[kaneohe]

Quote:

Originally Posted by ERD50 ............................ The Real Question: Is there any rule I'm missing regarding making a withdraw from my T-IRA just to cover the withholding for IL state tax? I made a ROTH conversion in 2016 and a few earlier years. I don't think there are any restrictions (like there are on taking money out of a ROTH after a conversion - 5 year rule I think?). I'm talking hundreds of dollars, not over a thousand, so I'm not concerned with paying the 15% Fed tax on that (which has to paid eventually). But man there are a lot of funky rules - am I missing some? Looks like IL underpayment penalty is 10% (on 90% of the underpayment?). -ERD50

The main thing I'd be concerned with as mentioned previously is if custodian will withhold state tax for your particular state. Some don't do it for particular states (for reasons I don't understand.....perhaps they know there is no state tax on IRA withdrawals for that particular state?). Over 59.5? otherwise there is 10% penalty on withdrawals. Wow....that IL underpayment sounds large......even Fed penalty is only interest (4%? now) on underpayment and based time delinquent so effective rate is more like 2% since some payments are not due till later in the yr.

[gauss]

Was your IL state witholding this year at least 100% of your IL state income tax last year? If so, there may be a safe-harbor that would protect you from under-withholding penalties.

This article suggests that, indeed, Illinois may have this safe harbor available. You would need to verify the details.

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Illinois residents can avoid having penalties for paying too little in taxes during the year (both withheld from their paychecks and through estimated payments) by paying 100% of what they owed last year for Illinois income taxes or 90% of what they will owe this year if that amount is lowe

I know that these exist on the Federal level as well as some states. I use this technique every year in that it:

1. Usually results in a tax refund
2. Avoids hasel of trying to forecast proper withholding for the current year when I may be preoccupied with other matters

-gauss

[ERD50]

Quote:

Originally Posted by kaneohe The main thing I'd be concerned with as mentioned previously is if custodian will withhold state tax for your particular state. Some don't do it for particular states (for reasons I don't understand.....perhaps they know there is no state tax on IRA withdrawals for that particular state?). Over 59.5? otherwise there is 10% penalty on withdrawals. Wow....that IL underpayment sounds large......even Fed penalty is only interest (4%? now) on underpayment and based time delinquent so effective rate is more like 2% since some payments are not due till later in the yr.

Good point - Fidelity did it for my MIL, but my rollover IRA is with E*trade, will need to verify this.

Yes, I'm over 59.5, so no penalty. IL charges a flat 10% on underpayment from what I can tell. I actually had trouble finding plain English wording on when the penalty kicks in, and their worksheet is a dozen lines on "enter this from there, subtract that from this, unless you filled out form zzxyz, ..." But @ 3.75% IL tax, a $500 underpayment is on $26,667 taxable income - so that's the area I'm talking about where I am that far under the top of Fed 15% bracket, and 'fill in' the rest with ROTH Conversion, and/or LTGC.

So we are talking ~ $50 penalty - not the end of the world, but if I can avoid it with a few minutes online I will, and then I've got this system down for future years - easier than adjusting/checking W4s each year.

Quote:

Originally Posted by gauss Was your IL state witholding this year at least 100% of your IL state income tax last year? If so, there may be a safe-harbor that would protect you from under-withholding penalties. ... -gauss

Good point also, and I have done the same in that past when income was more stable - but last year I had a big IL refund since I didn't account for the rollover not being taxed in IL, so I reduced IL w/h this year, not anticipating I would do the LTGC in place of the ROTH Conversion.

Taxes drive me nuts, so many interlocking pieces. At least this was predictable had I been on the ball, other things, not so much - tax planning many years out is a crap shoot, who knows what the situation and tax code will be in the future?

-ERD50

[youbet]

Quote:

Originally Posted by ERD50 if I can avoid it with a few minutes online I will, -ERD50

Haven't you already spent far more that a "few minutes online" with this?

I assume you're just digging to find a chat subject here on the forum as handling this situation is pretty much small potatoes for a well informed, quantitative guy like yourself........

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Taxes drive me nuts

Yeah, I guess that will drive someone to be preoccupied with a situation!

[ERD50]

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Originally Posted by youbet Haven't you already spent far more that a "few minutes online" with this? I assume you're just digging to find a chat subject here on the forum as handling this situation is pretty much small potatoes for a well informed, quantitative guy like yourself........

Yes the time spent may be more than what I'm saving for now, but it is an 'investment' for the future. Sometimes you just have to dig in and understand this stuff for future reference. And sometimes the investment in time learning isn't worth it, but you don't know that until you do it.

My initial post was along the lines of "you don't know what you don't know". Googling this stuff is difficult, you get so many hits on related things there is a lot of chaff to sort through to get to the wheat.

Often, this forum has enough bright, experienced, helpful people that can actually read the post and respond appropriately, rather than the google/robot response. I just wanted to make sure there was no interaction between this T-IRA withdraw, and past/future ROTH conversions, as this will be my first T-IRA withdraw that was NOT a ROTH conversion. I'm definitely not totally informed of all the tax codes on IRA's (is anyone? there are a LOT of them!), I know the basics, but again, "I don't know what I don't know".

Plus, you never know what you might learn along the way. I'm glad I posted, and I'm appreciative of the responses.

-ERD50

[ERD50]

Quote:

Originally Posted by kaneohe The main thing I'd be concerned with as mentioned previously is if custodian will withhold state tax for your particular state. Some don't do it for particular states (for reasons I don't understand.....perhaps they know there is no state tax on IRA withdrawals for that particular state?). ....

Follow up - you were right! I just logged onto ETrade, and the only option for W/H was Fed (0%, or 10%-100%). No option for IL State W/H.

I will call them Monday. Fidelity certainly allows you to set W/H % for both/either/or IL and Fed (I did it for my MIL). If ETrade can't accommodate this, I may decide to transfer this account to Fidelity, I'm thinking of consolidating some accounts anyhow. Not so much for this small amount and this small issue, but especially when DW retires (no paycheck W/H available), I want to use this method instead of Quarterly estimated payments. Doing one transaction online is far easier than setting up the payments with both state and fed, and as I recall, those need to be done to match income each quarter. The withholding from IRA withdraw is a real win-win all around, all gain, no downside (if your custodian will do it!).

-ERD50

[jazz4cash]

Quote:

Originally Posted by ERD50 Follow up - you were right! I just logged onto ETrade, and the only option for W/H was Fed (0%, or 10%-100%). No option for IL State W/H. -ERD50

This is similar to the issue I had and the reason your question piqued my curiosity. None of the IRA custodians I use (various credit unions and Ally) offer state withholding except Fido. I think some may do it if mandated by the state but it is optional in my state. I may actually have more control by taking the 99% distribution from Fido vs. filing quarterly payments with the state.

[gerntz]

I've paid our taxes with late year tIRA distributions ever since I retired. This year though, because that withdraw puts our MAGI over the Medicare premium bump, I'll quickly redeposit the withdrawal as an IRA rollover.

[ERD50]

Quote:

Originally Posted by jazz4cash This is similar to the issue I had and the reason your question piqued my curiosity. None of the IRA custodians I use (various credit unions and Ally) offer state withholding except Fido. I think some may do it if mandated by the state but it is optional in my state. I may actually have more control by taking the 99% distribution from Fido vs. filing quarterly payments with the state.

Coincidentally, my E*Trade 'guy' called this AM - they call ~ 1/Q and I normally don't pick up, but hit him with this question today. He said though it may not be set up on their web site, they can handle it for me. But rather than trust that, I will make a small withdraw at the start of 2018 to test it, and then another late in the year if needed.

I also realized I had my head on crooked on one thing - the "Safe Harbor" rule was mentioned earlier, which I was aware of, but I incorrectly compared my 2017 state W/H to my 2016 state W/H - I should have compared to my 2016 actual tax liability. So against that, I fall within the safe harbor rule, and I'm good for 2017.

I'm still glad I brought this up, so I can test E*Trade on their ability to do Fed & IL W/H.

It also appears (as I suspected, but was not sure), that a T-IRA withdraw now has no affect or interaction with past and possible future ROTH conversions.

Now... on to some analysis of ROTH conversions versus LTCG harvesting at 0% in the 15% tax bracket, but that will be another thread if I have questions or anything that might be worth sharing.

Thanks to all for the inputs!

-ERD50

[N02L84ER]

Quote:

Originally Posted by ERD50 ..." But @ 3.75% IL tax, a $500 underpayment is on $26,667 taxable income - so that's the area I'm talking about where I am that far under the top of Fed 15% bracket, and 'fill in' the rest with ROTH Conversion, and/or LTGC. So we are talking ~ $50 penalty - not the end of the world, but if I can avoid it with a few minutes online I will, and then I've got this system down for future years - easier than adjusting/checking W4s each year. ... Taxes drive me nuts, so many interlocking pieces. At least this was predictable had I been on the ball, other things, not so much - tax planning many years out is a crap shoot, who knows what the situation and tax code will be in the future? -ERD50

I could be mistaken, but I think our taxes in Illinois this year are 3.75% for the first 6 months and 4.95% for the other 6 months. Don't know what the calculations will look like for this. Fun. Fun.

[ERD50]

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Originally Posted by N02L84ER I could be mistaken, but I think our taxes in Illinois this year are 3.75% for the first 6 months and 4.95% for the other 6 months. Don't know what the calculations will look like for this. Fun. Fun.

You are correct, this was all over the news of course - I guess it slipped my mind as I've been focused on Fed tax lately.

2015 through June 30, 2017 3.75%
Effective July 1, 2017: 4.95 percent of net income

Income Tax Rates
http://www.revenue.state.il.us/Publi...FY-2018-02.pdf

-ERD50