REQUIRED MINIMUM DISTRIBUTIONS (RMD)
The Required Minimum Distribution (“RMD”) is the minimum amount each year that a person must take as a distribution from their Retirement Plans.[1] These Retirement Plans include 401(k), Traditional IRA, Simple IRA, SEP IRA, 403(b) or 457(b) (“Retirement Plans”)[2]. A ROTH IRA has NO Required Minimum Distribution.
The monies in these retirement plans are monies that have never been taxed by the Internal Revenue Service. At some point in time, the IRS wants to start collecting taxes on the value of these retirement accounts, so they created under the Tax Code a required minimum distribution that must be withdrawn every year.
WHEN DO I HAVE TO START TAKING THE RMD
The Required Beginning Date (RBD) is the deadline by which the first RMD must be taken.[3] The RBD is by April 1st following the year the person reaches the applicable age. The applicable age has changed over the years and can be broken down as follows:
If a person attained the age of 70.5 before January 1, 2020, then the applicable age to start the RMD is 70.5.
If a person attained the age of 70.5 after January 1, 2020 and attained the age of 72 before January 1, 2022, then the applicable age to start the RMD is 72.
If a person attains the age of 72 after December 31, 2022 and before January 1, 2033 then the applicable age to start the RMD is 73.
Finally, if a person attains the age of 74 beginning January 1, 2033, then the applicable age to start the RMD is 74.
HOW TO CALCULATE YOUR RMD
Your RMD is calculated by the value in your retirement plans as of December 31st of the prior year divided by the IRS Life Expectancy Tables.[4] If you have more than one retirement account, then all accounts are aggregated together to determine the December 31st value.
EXAMPLE – Susan is 78 and has two separate IRA’s with two separate brokerage accounts. The value of IRA account with ABC Brokerage is $75,251 as of December 31st, 2024 and the value of IRA account XYZ Brokerage is $189,230 as of December 31st, 2024. The aggregate value of these accounts is $264,481 and per the IRS Life Expectancy Table we use a factor of 22. This means that for 2025, her RMD is ($264,481/22 = $12,021.86
WHAT HAPPENS IF I FAIL TO TAKE THE RMD?
If an individual does not take the RMD, then the IRS will penalize the person either 10% or 25% on what they should have taken as the RMD.[5] If the RMD is corrected within two years, then the penalty is only 10%. If not corrected within two years, then the penalty is 25%. IRS Tax Form 5329 is used to calculate the penalty. If an individual has a ‘reasonable cause’ for missing the RMD, then the IRS may waive the penalty altogether.
CUSTODIAN OBLIGATIONS
Custodians are required to notify owners of their RMD by providing them with a notice by January 31st of each year. The notice will inform the account owner of the deadline to take the RMD and the amount of the RMD. However, it is still the owner’s responsibility to make sure they take the RMD Distribution.
QUALIFIED CHARITABLE DISTRIBUTIONS
A qualified charitable distribution (QCD) is a tax-free distribution from an IRA to a qualified charity. [6] Any IRA owner who is 70.5 or older is eligible to make a QCD. The QCD distribution counts towards the RMD if the person is required to take an RMD.
EXAMPLE – Joe is 78 and for 2024, his RMD is $10,000 and based upon his other income, Joe is in the 22% marginal tax bracket with the IRS. Every year Joe makes charitable contributions of $5,000 to a qualified charity. For 2024, he designated $5,000 from his IRA as a Qualified Charitable Distribution directly to his favorite charity. This results in a tax savings of $1,100 ($5,000 @ 22%) with the IRS!
PRACTICAL TIPS
TIP 1 – Wait until the end of the year before you take your RMD. Remember, the amounts in the IRA are growing tax deferred. If you wait until December to take your RMD, then your IRA has had 11 months of tax deferred growth.
TIP 2- Have federal taxes and state taxes withheld from your RMD distributions. All the distributions that you receive are subject to federal and state taxes (varies by state). It’s a good idea to have taxes withheld on your distributions so that there are no ‘surprises’.
TIP 3 – If you are inclined to give to charities, take advantage of the Qualified Charitable Distributions.