7 of the most common retirement questions answered

  • Nearly everyone looks forward to retirement, but not everyone is sure of the ins and outs.
  • One of the first questions people have is when to take retirement account distributions — and what to do with them.
  • Others aren't sure whether they must use a financial professional or make many of the decisions on their own.

Most everyone looks forward to retiring while they are working, because they relish the thought of no longer having daily commitments. However, not many people understand how investing for retirement really works. Here are some commonly asked questions about retirement plans.

1. When should I begin taking distributions from a pension, profit-sharing or 401(k) plan?

Every qualified retirement plan (pension, profit-sharing and 401[k] plan) specifies the exact situations that require a participant distribution. Some plans allow you to keep benefits in the plan(s) after you have retired or terminated employment. This might be a good option if the plan expenses are low and the investment options are sufficient to meet your personal retirement financial needs. If you are unable to evaluate these factors, you should ask a professional to help you decide.

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2. What should I do with distributions?

Generally, distributed money is subject to income taxes and a 10 percent early withdrawal penalty if you're under 59½ years old (except in certain circumstances). If you want the money before you reach 59½, you'll pay 20 percent to 40 percent in taxes and penalties. Federal rules require 20 percent tax withholding on any distribution paid to you, which may be more or less than your actual tax due. You'll settle up with the Internal Revenue Service when you file your next income-tax return.

3. What is an IRA rollover account?

Federal law allows people getting large pension and profit-sharing plan distributions to deposit them into an individual retirement account without paying taxes. Since these distributions would usually be taxable, the immediate tax savings can be considerable. After age 59½, distributions from your IRA rollover account are subject to income taxes but no early withdrawal penalty. Distributions can be sent directly to your IRA rollover custodian without the 20 percent required withholding tax.

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4. What is a Roth IRA?

This is a special type of individual retirement account. Unlike traditional IRAs, there is no tax break for making contributions, but the money enjoys tax-deferred growth and tax-free withdrawals in the future. Distributions from pension and profit-sharing plans may be rolled into Roth IRA accounts, but only after paying federal and state income taxes on the distribution. This tax bite can be sizable, so many people choose a traditional IRA rollover account instead.

5. What investments are allowed in an IRA rollover account?

Legally, there are few limitations on IRA investing. Investors can choose money market funds or insured certificates of deposit (CDs) at a bank. They may use stocks, bonds or mutual funds. They may choose certain insurance products or contracts. There are very few limitations. However, a particular advisor or custodian for your account may limit the options. In other words, a bank may offer only certificates of deposit; an insurance agent may offer only annuities. For these and other reasons, choosing the right advisor for your retirement account is very important.

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6. Must I choose an advisor to manage my retirement investments?

No. There are many self-help options available — no-load mutual funds, discount brokerage firms, even local banks or credit unions. This is retirement money set aside to supplement your golden years, so it's often worth paying a modest fee to enlist professional help, but fees also reduce investment earnings over the life of your account. Seek competent help at a reasonable price.

7. How does time factor into retirement investing?

Obviously, time is an important consideration. The further away your likely retirement date, the more aggressive your stance can be. In any case, retirement funds should be diversified to help protect against market corrections, political turmoil and monetary inflation. Most competent advisors recommend a mix of investments through individual securities or mutual funds.There are many good ways to achieve diversification. It's important to consider that today's retirement years often last a very long time. Investments in your account could be needed for decades after your official retirement date. For this reason, longer-term, diversified strategies often provide the best retirement results.

Having a working knowledge of retirement plans and investments and working with a trusted financial advisor can help take the guesswork out of funding your retirement.

(Editor's Note: This article originally appeared at Investopedia.com.)

— By Dan Danford, principal and CEO of Family Investment Center