In Your 40s? Avoid the IRA 'Double Tax'

NEW BERLIN, Ill. (TheStreet) -- Chances are, especially if you hold a significant amount of money in IRA accounts, you've heard about a "double tax" that may be a part of your account's future.

Here's a brief explanation: When the owner of an IRA dies, assuming the size of the estate is greater than the exclusion amount, the estate has to pay tax on any amount above the exclusion. Presumably this includes an IRA account, 401(k) and other retirement plans ... and when heirs begin taking Required Minimum Distributions from the IRA account, they will have to pay ordinary income tax on the amounts distributed. Hence the "double" tax.

It could happen, and you should be aware of it if you happen to be in that position. You should also be wary of any financial professional who claims you can avoid the double tax by simply taking your money out of the IRA. Typically this pitch is designed to sell you an immediate annuity or some other form of annuity product. Pulling the money out of the IRA does nothing to eliminate the double tax, though.

In fact, what this does is accelerate the process and cause you to pay one part of the distribution -- the ordinary income tax -- upfront. Plus, this is usually pitched as a lump sum maneuver, which increases your taxable income and thereby the rate at which your distribution is taxed, among other things. Clearly, if someone tells you pulling all your money out of your IRA will avoid the double tax situation, you should walk away and don't look back.