substantially equal periodic payments

[fortish]

I am age 54 and  started monthly pension payments under substanti[product key removed]dic-payments so I had code 2 on my 1099 for 2021.  2021 was the first year I received the monthly payment.  Now I want to stop these payments for 2022.  I have received around 4000.00 in payments for 2022 and 1300.00 in 2021.  According to IRS, I will be subject to 10% penalty during the modification year and interest during the deferral.  see excerpt below.

In that case, your tax for the modification year is increased by the amount that would have been imposed (but for the exception), plus interest for the deferral period.

 For the 10% penalty do I take the withdrawal amount and multiply by 10% to get the amount of penalty?

Can someone please help me understand how to calculate or estimate the interest during deferral period? 

[DianeW777 · Accepted solution]

Yes, you take the withdrawal amount times 10%. Keep in mind that once you reach the age for required minimum distributions (RMDs) the penalty will be 50% for amounts that are not withdrawn.  The interest rate for the IRS can be found on IRS News, currently the IRS interest rates for Q1-2022.

• Under the Internal Revenue Code, the rate of interest is determined on a quarterly basis. For taxpayers other than corporations, the overpayment and underpayment rate is the federal short-term rate plus 3 percentage points.
  • Applicable Federal Rates (review the short-term rates and add 3%) Currently 4.26% - Use this link to find the rate for each period as the year moves forward.

It appears you are referring to the following in IRS Publication 575:

• Recapture tax for changes in distribution method under equal payment exception.  An early distribution recapture tax may apply if, before you reach age 59½, the distribution method under the equal periodic payment exception changes (for reasons other than your death or disability). The tax applies if the method changes from the method requiring equal payments to a method that wouldn’t have qualified for the exception to the tax. The recapture tax applies to the first tax year to which the change applies.

  • The amount of tax is the amount that would have been imposed had the exception not applied, plus interest for the deferral period.

  • The recapture tax also applies after you reach age 59½ if your payments under a distribution method that qualifies for the exception are modified within 5 years of the date of the first payment. In that case, the tax applies only to payments distributed before you reach age 59½.

• Report the recapture tax and interest on line 4 of Form 5329 (10%). Attach an explanation to the form. Don’t enter the explanation next to the line or enter any amount for the recapture on line 1 or 3 of the form.