Retirement Plan and IRA Required Minimum Distributions FAQs
If you are approaching age 70, it’s a good idea to know the rules regarding “required minimum distributions” (RMDs).
WHAT ARE REQUIRED MINIMUM DISTRIBUTIONS OR RMDs?
Required Minimum Distributions or RMDs are minimum required withdrawals from your employer-sponsored retirement plan(s) and/or IRA. Generally, RMDs begin when you reach 70 ½ years of age. If you are still working after this age and don’t own more than 5% of the company and your plan doesn’t mandate payouts at 70½, then RMDs from the retirement plan can be deferred until actual retirement. However, you will have to take RMDs in respect of any IRAs that you own.
WHAT KIND OF RETIREMENT ACCOUNTS HAVE RMDs?
RMD rules apply to traditional IRAs and IRA-based plans such as SEPs, SARSEPs, and SIMPLE IRAs. They also apply to all employer-sponsored retirement plans, including profit-sharing plans, 401(k) plans, 403(b) plans, and 457(b) plans.
WHY ARE WITHDRAWALS REQUIRED?
Congress provided tax benefits to encourage savings for retirement. However, the intent was not to shelter these funds from tax forever. So most account holders are required to withdraw a minimum amount every year after age 70½.
ARE THERE ANY RETIREMENT ACCOUNTS NOT SUBJECT TO THE RMD RULES?
Under current law, there are no required withdrawals from Roth IRAs.
WHO IS RESPONSIBLE FOR DETERMINING THE AMOUNT OF RMD?
Although the IRA custodian or retirement plan administrator may calculate the RMD, the IRA or retirement plan account owner is ultimately responsible for calculating the amount of the RMD. You can use the Internal Revenue Service tables in Publication 590-B. They also provide worksheets to calculate required minimum distributions. There’s no limit on withdrawals.
WHAT IS THE DEADLINE FOR TAKING RMDs?
For most years, the deadline for taking the mandatory withdrawal is Dec. 31. However, the distribution deadline for the initial year is April 1st following the year in which the account owner turns 70 ½.
Note: Postponing the first distribution until after the year in which you turn age 70 ½ will almost certainly result in having two distributions (the first and second) in the same year. That might put you in a higher marginal tax bracket.
WHAT IS THE TAX RATE ON WITHDRAWALS?
RMDs are treated like any other ordinary income. That said, to the extent the RMD is a return of basis or is a qualified distribution from a Roth IRA, it is tax-free.
CAN AN ACCOUNT OWNER JUST TAKE A RMD FROM ONE ACCOUNT INSTEAD OF SEPARATELY FROM EACH ACCOUNT?
An IRA owner must calculate the RMD separately for each IRA, but can withdraw the total amount from one or more of the IRAs. Likewise, a 403(b) contract owner must calculate the RMD separately for each 403(b) contract, but can take the total amount from one or more of the 403(b) contracts. However, RMDs required from other types of retirement plans, such as 401(k) and 457(b) plans have to be taken separately from each of those plan accounts.
MUST RMDs BE TAKEN ONLY AS CASH WITHDRAWALS?
No, it’s possible to take them in kind, i.e., as stock shares or even a piece of real estate. For an IRA owner who doesn’t plan to spend the money, this approach may avoid commissions for selling and then repurchasing an investment. The new cost basis in the asset, which is the starting point for measuring taxable gain, is the value on the date of the payout.
WHAT IS THE BEST TIMING FOR TAKING RMDs?
There are a few things to consider, and the decisions are a matter of your individual choice. Some opt for periodic payments similar to a pension and others take a lump sum late in the year to delay owing taxes. Retirees often owe quarterly estimated taxes, so consider whether to have taxes withheld. Additionally, if an account owner dies without having taken the RMD for the year, it can cause complications for whoever inherits the IRAs. An RMD must be made, but it goes on the heir’s tax return.
CAN I APPLY THE EXCESS TO MY MINIMUM PAYOUT THE NEXT YEAR IF I TAKE MORE THAN THE MINIMUM DISTRIBUTION ONE YEAR?
ARE THERE WAYS TO LESSEN THE TAXABLE INCOME OF RMDs THAT I DON’T IMMEDIATELY NEED?
Yes, but within limits:
- Employees older than 70½ that are still working may be able to forgo payouts until they retire and charitably minded savers often benefit by using IRA assets to make their donations.
- Additionally, IRA owners can exclude up to $125,000 of assets from the base for computing required payouts if they use the assets to buy “qualifying longevity annuity contracts,” or QLACs. These are IRS-approved deferred annuities that don’t pay out until the owner reaches age 85, and provide guaranteed income for life.
- An IRA owner can convert assets above the RMD to a Roth IRA, which does not require withdrawals during the owner’s lifetime under current law. However, assets converted to a Roth IRA are taxable upon conversion, and could push the taxpayer into higher brackets. Whether the move is worth it depends on individual circumstances. Often a good time to do such conversions is in the years leading up to age 70½. Many people who convert assets to Roth IRAs do so in increments over several years in order minimize the tax bill. If the IRA owner has retired and is in a lower tax bracket, the cost of Roth conversions will often be lower as well.
WHAT HAPPENS IF I MISS A WITHDRAWAL OR TAKE LESS THAN THE RMD?
If an account owner fails to withdraw an RMD, fails to withdraw the full amount of the RMD, or fails to withdraw the RMD by the applicable deadline, a tax in the amount of 50% of the amount that should have been distributed is imposed. The account owner should file Form 5329 with the IRS and attach a letter of explanation and withdraw the shortfall as quickly as possible. You don’t need to pay the penalty at this time, and the IRS may waive it for a good reason.
I HAVE ADDITIONAL QUESTIONS; WHERE CAN I GET MORE INFORMATION?
For more information, please visit our Retirement Plan Services page or contact one of our Retirement Consultants today at 516-683-6100.
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The material is for educational purposes and should not be considered a solicitation or an offer of investment advice/securities. Individuals or Employers should consult with qualified legal and/or tax counsel for guidance in respect of matters of law, tax, and related regulation.