Required Minimum Distributions (RMDs)

What Are Required Minimum Distributions (RMDs)?

An RMD is the minimum amount you must withdraw annually from your retirement accounts, starting at a specific age. The purpose of RMDs is to ensure that individuals don’t defer taxes on retirement savings indefinitely. Since retirement accounts such as Traditional IRAs, 401(k)s, and 403(b)s provide tax-deferred growth, the IRS wants to ensure that taxes are paid on those funds at some point.

When Do RMDs Begin?

The IRS requires RMDs to start when you reach age 73 (for individuals who turned 72 after December 31, 2022, thanks to changes made by the SECURE Act 2.0). If you turned 72 before January 1, 2023, you are required to begin taking RMDs at age 72.

Important Milestones:

• Age 73: You must begin taking RMDs from traditional retirement accounts (IRA, 401(k), 403(b), etc.).
• Age 75: The age at which RMDs start may be pushed back to 75 for those who reach this age after 2032 (under the SECURE Act 2.0).

If you delay taking RMDs until after age 73, you may face penalties. The IRS imposes a 50% penalty on the amount that should have been withdrawn but wasn’t, in addition to regular income tax on the withdrawal.

Which Accounts Require RMDs?

RMDs are required for most tax-deferred retirement accounts, including:

• Traditional IRAs
• 401(k) Plans (including 403(b), 457(b) plans)
• Profit-Sharing Plans
• Pension Plans
• Simplified Employee Pension (SEP) IRAs
• Savings Incentive Match Plan for Employees (SIMPLE) IRAs

Note: Roth IRAs do not require RMDs during the account holder’s lifetime. However, Roth 401(k)s do require RMDs, but this can be avoided by rolling the Roth 401(k) into a Roth IRA.

How Are RMDs Calculated?

The amount of your RMD is determined based on two main factors:

• Account Balance: The balance of your retirement account(s) on December 31st of the previous year.
• Life Expectancy: The IRS provides a life expectancy table that factors in your age. The longer your life expectancy, the smaller the RMD. The IRS uses the Uniform Lifetime Table (or an alternative table for spouses more than 10 years younger) to calculate this.

RMD Calculation Formula:

To calculate your RMD, divide your retirement account balance by the life expectancy factor from the IRS table.

For example:

If your retirement account balance is $200,000 on December 31st of the previous year, and your life expectancy factor is 27.4 (based on the IRS table for a 73-year-old), your RMD would be:

 RMD=200,00027.4=7,299.64\text{RMD} = \frac{200,000}{27.4} = 7,299.64RMD=27.4200,000=7,299.64

This means you would need to withdraw $7,299.64 from your account during the year.

Important Tip: If you have multiple retirement accounts, you must calculate the RMD separately for each account. However, you can withdraw the total RMD amount from a single account, if you prefer.

How to Take RMDs

RMDs can be taken as a lump sum or as a series of withdrawals throughout the year. Many individuals choose to take their RMDs at the beginning of the year, which can be an easy way to remember the withdrawal date. You can also set up automatic withdrawals to ensure the RMD is taken on time.

• Automatic Payments: Some financial institutions offer automatic RMD payments, so you don't need to worry about calculating or withdrawing the funds each year.
• Required by December 31st: The IRS requires you to take your RMD by December 31st of the year. You can take it anytime during the year, but the final deadline is December 31st.

Tax Implications of RMDs

• RMDs are considered ordinary income for tax purposes. When you take your RMD, the amount you withdraw will be added to your taxable income for the year and taxed at your ordinary income tax rate.
• State Taxes: Depending on your state of residence, your RMD may be subject to state income taxes as well.
• Income-Based Deductions: The additional income from your RMD may affect other aspects of your tax situation, such as tax credits, deductions, and even eligibility for programs like Medicare.

Special RMD Considerations

• First Year of RMDs: In the year you turn 73, you have the option to delay your first RMD until April 1st of the following year. However, if you delay your first RMD, you will need to take two distributions in that year—one by December 31st for the previous year and one by April 1st for the current year.
• Multiple Accounts: If you have multiple retirement accounts, RMDs must be taken from each account individually. However, you can combine the total amount into a single withdrawal if you prefer.
• Inheritances: If you inherit an IRA or 401(k), RMD rules differ depending on whether you’re a spouse, non-spouse, or trust. Inherited IRAs are subject to different distribution rules, and it’s important to consult with a financial advisor when handling inherited retirement accounts.

RMD Penalties

If you fail to take your RMD or withdraw less than the required amount, the IRS imposes a hefty penalty. The penalty for failing to take an RMD is 50% of the amount that should have been withdrawn. For example, if your RMD is $5,000 and you fail to take it, you will owe a penalty of $2,500.

To avoid penalties, make sure to calculate your RMD accurately and take the required distributions on time.