Note: If you are the beneficiary of an inherited retirement account from a loved one, the RMD rules applicable to the inherited retirement account may vary from the information below. To learn more, review the following content: Inherited IRAs for Surviving Spouses and Inherited IRAs for Non-Spouse Beneficiaries.
RMD Basics
What Are Required Minimum Distributions (RMDs)?
The IRS requires a minimum amount to be distributed from retirement accounts annually after reaching age 72. Required Minimum Distributions (RMDs) apply to most employer-sponsored qualified retirement plans like 401(k)s, Roth 401(k)s, 403(b)s, 457(b)s, profit-sharing plans, defined benefit plans, etc., as well as traditional IRAs and IRA-based plans such as SEPs, SARSEPs, and SIMPLE IRAs. RMDs are not required for Roth IRAs. RMDs are generally taxed at ordinary income tax rates; however, an RMD that is a return of qualified basis is tax-free.
When Are You Required to Take RMDs?
As a result of the SECURE Act passed in December 2019, beginning on January 1, 2020, RMDs must be withdrawn annually after reaching age 72. Before 2020, RMDs were mandatory upon reaching age 70½. However, if you are still working past the age of 72 and you are less than a 5% owner in the company sponsoring the plan, you may delay taking your RMD until the year you retire if the plan allows it (for qualified plans only, not IRAs).
The first RMD must be taken for the year you turn 72 but can be delayed until April 1st of the year following the year you turn 72. However, account owners are responsible for taking the correct RMD amount by December 31st of all subsequent years. The penalty for not distributing the minimum required amount is 50% of the amount required to be distributed but not withdrawn.
Postponing the first year’s RMD may be a good approach if you estimate that your income in the following year would be substantially lower. However, if you postpone taking your initial RMD, the next year will then require two distributions (one from the previous year plus the current year’s RMD), which may reduce the potential for paying tax at a lower rate.
How are RMDs Calculated?
RMDs are calculated for each account by dividing the prior year’s December 31st balance of the account by a life expectancy factor that the IRS publishes. The most commonly used set of factors is found in the Uniform Lifetime Table as it applies to unmarried account owners, owners with non-spouse beneficiaries, or an owner with a spouse beneficiary that is not more than 10 years younger. In addition, use the Joint and Last Survivor Table factors if the account’s sole beneficiary is your spouse who is more than 10 years younger than you. These tables can be found on the IRS website. We recommend working with a CPA to ensure your RMD amount is correct.
Most financial institutions will estimate the amount of the RMD you need to take, and you can work with your Beacon Pointe Client Service Associate to complete the process. To estimate your annual RMD, click here for Schwab’s Traditional IRA RMD calculator or here for Schwab’s Inherited RMD calculator. If you recently changed brokerage firms since the end of the prior year, check with your CPA to calculate the RMD for that year.
Any excess distribution from one year cannot be applied to future RMDs, and rolling your RMD into another tax-deferred retirement account is not allowed. An RMD must be calculated separately for each IRA account, but you can withdraw the total amount of the RMD from one or more IRAs or 403(b)s. However, separate RMDs are required to be taken from each qualified plan (e.g., 401(k), profit-sharing, and 457(b) account).
How Should You Withdraw RMDs?
If your RMD is part of the income that supports your daily living needs, taking a regular monthly or quarterly distribution allows you to dollar cost average out of the market, timely providing the cash flow needed to meet those needs.
If you do not need the funds to cover your expenses, you could also take your RMDs “in-kind” by transferring an equivalent amount of assets directly to a non-retirement investment account rather than selling. For example, if you own a mutual fund that is now closed to new investors and you do not want to liquidate it, an in-kind transfer will preserve your access. Or, you may hold assets in your retirement accounts that you believe to be undervalued. An in-kind transfer can satisfy the RMD while allowing you to benefit from any post-distribution appreciation. Note that the distribution of the RMD, even if in-kind, is treated as ordinary income, and any future post-distribution gain would be characterized as a long-term capital gain.
Should You Consider Directly Transferring Some or All of Your RMD to Charity?
If you do not need the RMD to cover your expenses and are charitably inclined, you could donate all or part of that RMD to certain charities to avoid paying income tax on the amount donated. The Qualified Charitable Distribution (QCD) rules allow distributions of up to $100,000 annually per taxpayer from Traditional or Inherited IRAs (but not from a SEP or SIMPLE IRA, or an employer retirement plan) to go directly to certain qualified charities (check with your CPA) and avoid including the distribution as income on your tax return. [Note: While a QCD may come from a Roth IRA in certain circumstances, it is unlikely to qualify for QCD treatment or would not be advantageous for tax purposes.]
Interestingly, although the SECURE Act changed the RMD starting age, the Act did not change the age when you can first make a QCD. Beginning after age 70½, it may make sense to donate up to $100,000 annually from IRA distributions to a qualified charity to satisfy your philanthropic objectives while reducing the size of your retirement accounts set to pass to beneficiaries. Due to differences in taxation to your individual and charitable beneficiaries, there may be tax advantages to balance your charitable bequests within your estate plan.
QCD donors will not receive an income tax deduction for the charitable donation but do not have to pay taxes on that income. If you are no longer itemizing deductions given the increased standard deduction, you might consider giving through a QCD to reduce your income subject to tax.
RMDs and Taxes
We suggest working with your CPA to determine the appropriate amount of income tax to withhold on your RMDs (if any). If you are already working with a CPA to estimate quarterly tax payments, then you may not need to withhold taxes from your RMDs. Tax withheld from RMDs decreases the amount of estimated tax payments needed, and withheld taxes from your RMDs are credited to your estimated tax obligation as if the taxes were paid in equal installments (even if it is not received until late in the year).
Important Disclosure: This report is for informational purposes only. Opinions expressed herein are subject to change without notice. Beacon Pointe has exercised all reasonable professional care in preparing this information. The information has been obtained from sources we believe to be reliable; however, Beacon Pointe has not independently verified, or attested to, the accuracy or authenticity of the information. Nothing contained herein should be construed or relied upon as investment, legal or tax advice. All investments involve risks, including the loss of principal. Investors should consult with their financial professional before making any investment decisions. Past performance is not a guarantee of future results.
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