How to ease the pain of mandatory IRA withdrawals for seniors

— -- Lawmakers gave retirees a present last week, but like many holiday gifts, it wasn't exactly what they wanted.

Congress approved a bill that would allow retirees to defer required withdrawals from their individual retirement accounts and 401(k) plans in 2009. However, it won't help seniors who want to avoid taking a mandatory withdrawal in 2008.

Ordinarily, seniors 70½ and older are required to withdraw a minimum amount from their tax-deferred retirement savings plans every year and pay taxes on the money. The amount is based on a life-expectancy factor calculated by the IRS and the value of seniors' retirement plans at the end of the previous year.

This year, though, retirees have seen the value of their savings shrivel. Many seniors who don't need money to pay expenses have been postponing withdrawals in hopes that Congress or the Treasury Department would change the rule.

There's still a chance that the Treasury will use its authority to provide some relief, possibly by allowing retirees to calculate their withdrawals based on the value of their accounts at the end of 2008, instead of 2007. A Treasury spokesman said Monday that the department is still looking at the issue. But with the end of the year fast approaching, retirees who haven't taken their distributions need to be prepared to take their mandatory withdrawals. The penalty for not taking one is 50% of the amount you were supposed to withdraw.

Fortunately, there are steps you can take to minimize the damage to your IRA:

•Take an in-kind distribution instead of cash. Are you convinced the stocks or mutual funds in your IRA will recover next year? By taking what's known as an "in-kind" distribution, you can hold on to those investments and fulfill your requirement to the IRS.

Here's how it works: Instead of taking your withdrawal in cash, ask your IRA provider to transfer the equivalent amount of stocks or mutual funds to a taxable account.

You'll still have to pay income taxes on the withdrawal, and because you're not taking it in cash, you'll have to come up with another source of funds to pay the IRS. But by transferring your stocks or funds to a taxable account, you'll avoid locking in your investment losses. And as long as you wait at least a year to sell your stocks and funds, any future gains will be taxed at your capital gains rate, which for most investors is 15%, says Ed Slott, an accountant and IRA expert in Rockville Centre, N.Y.