Investment Company and Variable Contracts Products Representative (Series 6)Practice Exam

What can a client do to avoid a 10% tax penalty on premature IRA distributions?

1. Invest only in stocks

2. Annuitize the IRA

3. Withdraw funds for education expenses

4. Set up a traditional IRA

The correct answer is: Annuitize the IRA

To avoid the 10% tax penalty on premature distributions from an IRA, clients can utilize specific strategies that align with IRS guidelines. Annuitizing the IRA is one valid approach because when an IRA is converted into an annuity, the funds can be received in regular payments. Once the annuity is established, the distributions can be structured to be compliant with the IRS regulations regarding age and penalties, thereby avoiding the premature distribution penalty if the payments begin after the individual reaches 59½ years of age. The other choices do not typically provide the same benefit. For instance, while withdrawing funds for education expenses may seem like a viable option, it generally aligns with specific IRAs, such as Roth IRAs, under certain conditions. Simply investing only in stocks does not directly impact the penalty on distributions. In addition, setting up a traditional IRA alone does not mitigate the 10% penalty; it is the nature and timing of the withdrawals that are critical. Thus, annuitizing the IRA stands out as a strategy specifically designed to help manage withdrawal penalties.