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When a client takes money out of an IRA before reaching age 59 and a half he or she is liable not only for income taxes on the distribution, but also for a 10% penalty - which is based on the withdrawn amount. However, a client can avoid the 10% penalty if he or she meets the requirements of § 72(t) of the Internal Revenue Code ("IRC"). Specifically, the client must structure the withdrawals as to take "substantially equal periodic payments" ("SEPP") at least annually, and for at least five years or until they turn 59 and a half - whichever is longer. In structuring the SEPP the Internal Revenue Service ("IRS") allows the IRA owner to choose one of three methods: required minimum distribution ("RMD") fixed amortization ("FAM"); and fix annuitization ("FAN"). The RMD method applies the calculation that is used when IRA owners reach age 70 and a half. Each year the owner uses a divisor based on his age to determine how much should be withdrawn. This method will cause the required amount to vary from year to year. The FAM method calculates the amount based on the life expectancy tables in IRS Publication 590, along with the applicable federal rate. Once the initial calculation is made, the amount will remain the same each year. Finally, the FAN method, when distributed over the IRA owner's life expectancy, is based on the present value of the IRA. It is also a fixed payment, determine in part by the applicable federal interest rate. IRA owners choosing the RMD or FAM methods must also decide which of the three life tables they will use to further determine the withdrawal amount. Clients who choose either FAM or FAN get one opportunity over the duration of the SEPP to switch their distribution calculations to RMD. Clients who commence their SEPP with the RMD method may not change until either five years have passed or age 59 and a half is reached. When working with a client who is facing a Medicaid spend-down the only method that provides the result that is needed (converting a countable resource into an income stream) is the FAN method.
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