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EWP For IRA CDs

Frank Walker
  |     |   83 posts since 2016

This is only just a heads up.  The scenario:

You have an IRA CD.  You decide to close it before maturity, for whatever reason, and pay the penalty.

The rub:

IRS rules dictate that penalty be paid out of your IRA funds.  That is tax-privileged money.  Ideally, you want to pay your EWP from other funds, NOT inside the IRA, which are NOT tax privileged.  Of course the financial institution collects its penalty either way, the same dollar amount either way.  That is not the issue.  

My take:

Go for it!!  Exhort the financial institution to accept external funding of the penalty.  All they can do is say "no".  I think many financial institutions are unaware of this rather obscure IRS rule.  And the IRS, when you file, will never know how you paid the penalty.   

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Ally6770
  |     |   4,307 posts since 2010
Many financial institutions will not give you a EWP if you leave the minimum amount in the CD. Some require a $500 or $1,000 minimum amount in a CD and if you take it all out but that amount for any reason there is no penalty. Others like Navy will always take the lowest paying CD to give you your RMD or conversion money no matter if it closes the CD all with no penalty. Pentagon will give no penalty if you leave $1,000 in the CD. 
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Bozo
  |     |   1,375 posts since 2011
Just a quick question. Mind you, I've never liquidated an IRA CD early (or at all, for that matter), so I am just curious. Were one to liquidate early, and have the EWP deducted from the principal, would not the principal be thus reduced for tax purposes? I do have experience liquidating after-tax CDs early, and know that EWPs are below-the-line adjustments to income on IRS Form 1040 (line 30).

Just thinking out loud here. You have an IRA CD worth $100K. The EWP is 1%, or $1K. Your taxable income would be $99K. Alternatively, you pay the $1K from other funds, upon which you have already (presumably) paid tax. Your taxable proceeds on the IRA would be $100K. You might not, however, be able to write the $1K off on line 30. Or would you?
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Inflation_Hawk
  |     |   107 posts since 2016
Now there's something I never considered as yet another IRA gotcha.  I've directed several financial institutions to pay for wire transfers and overnight mail out of my taxable accounts for costs associated with IRA accounts.  But, the EWP is a totally different thing.  I may have to contact the IRS to verify if an EWP is considered to be a taxable distribution.      
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Bozo
  |     |   1,375 posts since 2011
Jimbeau, "costs associated with IRA accounts", that's a new one for me. Aside from paper statement fees (Alliant and PenFed come to mind*) of a buck or so every statement, deducted from my regular share account, I've never encountered any IRA CD management fees. Who is charging you these fees?

*For your laugh of the day, I (finally) bit the bullet and went to Best Buy and bought a new black-and-white printer. My other printer died. I can now print out all the monthly statements I want, and go "paperless", thus saving all those pesky paper statement fees. I'll get around to going "paperless" one of these days. I promise.
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Frank Walker
  |     |   83 posts since 2016
Basically this is about "what is the IRS told".  The IRS only knows what your financial institution tells them.  Suppose you have a $1000 IRA CD and you decide to close it and pay the $100 EW penalty.  If the penalty is deducted from your IRA funds, the financial institution will report a closing value of $900 to the IRS for your IRA.  You will, in turn, be limited to a re-investment of $900 when you open your new IRA, down from the $1000 you started with.

But if you can convince your financial institution to accept their $100 from funds external to your IRA, then they will report to the IRS a value of $1000 for your IRA at time of closure.  You then are empowered to turn around and open a new IRA for $1000.

Your financial institution pockets $100 either way, so for them this is no bigee.  But for you, the IRA account owner, it makes a difference.  IRA dollars are "special dollars".  You do not want to be spending them to pay penalties if you can avoid it.  Heck, you do not want to be spending those dollars at all, for any reason, if you somehow can avoid doing so.
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