While IRAs provide a tax advantage in saving for retirement, distributions from traditional IRAs are taxed as income. IRA accounts are regulated by the IRS, however, many states have their own rules and requirements for IRA contributions and distributions. In California, residents pay income taxes on the taxable amounts withdrawn from an IRA account.
Basics of IRAs
An IRA is an individual retirement arrangement. In a traditional IRA, contributions are pre-tax, while in a Roth, the contributions are afer-tax. In both cases, money inside of an IRA grows tax-deferred, which means that no taxes are due for capital gains, interest or dividends earned on the funds in the account. However, withdrawals from a traditional IRA are taxable. For account holders under age 59 1/2, an additional 10 percent penalty may also apply. All of the federal rules apply to California as well, however, the California early withdrawal penalty is 2 1/2 percent in 2010.
Taxable IRA Distributions
All deductible contributions, as well as any income and gains on invested funds from a traditional IRA, are fully taxable as income in California. Just as under federal law, qualified distributions from Roth IRAs are not taxable, however,investment gains on early distributions may be taxed as income and subject to the early withdrawal penalty.
IRS Withholding
Unlike 401k distributions, withholding for taxes on IRA distributions is optional. Taxpayers must ensure the amount of withholding that occurs from all income sources during the tax-year is sufficient, otherwise, there may be a penalty for under-withholding. Most financial firms will withhold 10 percent for federal income taxes unless otherwise instructed. No withholding is required for qualified Roth IRA distributions.
California Withholding
Withholding from an IRA distribution for California income taxes is not mandatory. However, most financial firms will automatically withhold 10 percent of the amount withheld for federal income taxes if federal taxes are withheld, unless otherwise instructed by the account owner. Residents may specify no California state tax withholding even if federal income tax withholding is selected.