Contributed by Benjamin Saltzman
Did you know that once you hit a certain age, you must start taking out a minimum amount from your retirement accounts annually? This is called a required minimum distribution (RMD). In this blog post, we will touch on the high points of this rule, when and how this rule kicks in, and point out some helpful resources.
The Current RMD Rules
Historically, most people had been required to begin taking mandatory distributions from qualified retirement accounts (i.e. IRA, SIMPLE IRA, SEP IRA and/or employer-sponsored retirement plans) upon reaching age 70.5. However, changes were made on December 20, 2019, with the passing of the Setting Every Community Up for Retirement Enhancement (SECURE) Act. These changes now dictate that if your 70th birthday is July 1, 2019, or later, you do not have to take withdrawals until you reach age 72.
Your required minimum distribution is the minimum amount you must withdraw from your account on an annual basis. You can always choose to withdraw more than your RMD in a given year but failing to take at least the minimum amount required can result in a significant penalty. Any money taken out will need to be included as taxable income with the exception of any funds that were previously taxed or are designated as tax-free such as qualified charitable distributions (QCDs) or qualified distributions from Roth accounts.
These rules apply to the following types of retirement accounts:
|Traditional IRAs||401(k) Plans|
|SEP IRAs||457B Plans|
|SIMPLE IRAs||Profit Sharing Plans|
|403B Plans||Other Defined Contribution Plans|
*Note that Roth IRA’s do not require withdrawals until after the death of the owner.
You can always choose to withdraw more than your RMD in a given year but failing to take at least the minimum amount required can result in a significant penalty.
What happens if I do not meet the Required Minimum Distribution Amount?
If you do not take out the required minimum distribution per the rules listed above, you are subject to a tax penalty of 50% of the amount not withdrawn on time.
How to Calculate your Required Minimum Distribution (RMD)
The simple answer to this question is to take the account balance at the end of the preceding calendar year and divide that by a distribution factor from the Table 3: IRS’s Uniform Lifetime Table. Use the below alternate tables for the other common scenarios from the same link above:
- Table 1 (Single Life Expectancy) – used for non-spouse beneficiaries
- Table 2 (Joint Life and Last Survivor Expectancy) – for owners whose spouses are more than 10 years younger and are the sole beneficiary of the plan
For a free worksheet to calculate your own required minimum distribution, visit this page for a tool on the IRS Website. Although many custodians provide assistance in calculating RMD amounts and issuing reminders about when they must be made, it’s important to recognize that it is ultimately the account owner’s responsibility to both correctly compute and make the required distributions.
Other Exceptions to Consider
What if I Inherit a Traditional IRA?
Your options will vary based on your relationship to the original account owner.
- Inherited IRA from a Spouse – you can roll over the assets into your own IRA or you can elect to transfer the assets into an “Inherited IRA.” Surviving spouses should consider when they anticipate needing the funds. If you expect to need to access the funds sooner it may be advantageous to transfer the assets into an Inherited IRA, rather than rolling the funds into your own IRA, as the Inherited IRA provides you with the ability to withdraw funds from the account once you hit age 59.5 without incurring the 10% IRS early-withdrawal penalty. You always retain the option of rolling the Inherited IRA assets into your own IRA at a later date, however once completed, rollovers cannot be undone so this decision should be made carefully with input from a qualified professional.
- Inherited IRA from a non-Spouse – per the latest changes in law from the SECURE Act, the requirement now states that non-spouse beneficiaries take full payouts within 10 years after the death of the initial account owner. The individual who inherited the account will not be required to meet any other distribution requirements within that time frame but will be required to fully distribute all assets from the account by the end of the 10-year period.
What if I am still working past age 72?
If you are still working at age 72, you are still required to take an RMD from any retirement accounts except your current employer’s plan if:
- You are still working full-time for that employer.
- You do not own more than 5% of your employing business.
- You have an employer-sponsored retirement account with that business.
- For example, an investor who is still working at/beyond age 72 that has a traditional IRA and a 401(k) with their current employer would be required to take an RMD from their IRA, but that 401(k) balance could be excluded from the calculation.
- If you have 401(k) plans from previous employers and if your current employer’s 401(k) plan allows for the addition of other 401(k) plan assets, you can avoid having to make RMDs from your prior employer’s plans by rolling them all into your current employer’s 401(k). Doing so allows you to delay taking an RMD from your 401(k) until you retire.
What if I don’t need the cash?
The IRS requires that you withdraw the minimum amounts required but they do not mandate how the distributed assets must be used, which creates some potential planning opportunities. If you do not need the RMD to supplement your cash flow, here are a few ways you can consider using those funds:
- Invest the proceeds into a non-qualified investment account OR into a Traditional IRA, if eligible, now that the age cap has been eliminated.
- Gift the proceeds to loved ones
- Make a Qualified Charitable Distribution (QCD) – Subject to specific rules and limitations, QCDs allow eligible individuals to make distributions directly to qualified charitable organizations in a tax advantaged way.
The RMD regulations may appear straightforward at first glance – required withdrawals at a certain age – however like most financial planning matters, there are numerous considerations and nuances that should be carefully assessed. It is important to consult with a professional for guidance to make certain you are well informed and prepared to make decisions and to take the appropriate actions in regards to your retirement planning and spending.
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