Baby Boomers, 70½ is a key date in our aging journey and it just so happens that the first Boomer turned 70½ on July 1, 2016. The IRS has been waiting for a long time for this date. Why? Simply because Boomers must begin taking their required minimum distributions (RMDs) from their retirement accounts. In turn, the IRS will begin collecting taxes on the accumulation of wealth that has been deferred and amassed in their retirement accounts.
The reason this is so important for you is that the IRS assesses a penalty of 50% of the distribution you were supposed to take (according to their Uniform Lifetime Tables) if you fail to take your RMD on time. Seriously, 50%! (For related reading, see: How Retirees Should Think About Retirement Income.)
That said, let me break it down so you can understand the basics:
- Start Date: The first distribution must be taken by April 1 in the year following the calendar year in which you reach age 70½. After the first year's distribution, the next distribution must be taken in that calendar year. These first two years can be a little tricky because you might end up having to take two distributions in the same year. Example: You turn 70½ on July 15, 2016. You must take your first RMD (for 2016) by Apr. 1, 2017. You must take your second RMD (for 2017) by Dec. 31, 2017 and your third RMD by Dec. 31, 2018. Note: if you're still working at 70½, you may be able to delay the distribution. Also, defined contribution plans (think 401(k)s) have unique rules.
- Type of Accounts Included: RMDs must be taken from traditional IRAs, SEP IRAs, SIMPLE IRAs and most defined contribution plans. Roth IRAs are not included.
- How is it Calculated?: Your RMD is generally calculated according to a factor in the Uniform Lifetime Table. You can determine yours using the IRS site for Required Minimum Distribution Worksheets.
- How is it Distributed?: If you have multiple IRAs, each RMD must be calculated separately but the total amount can be taken from one of your IRAs. The distribution can be done annually or at any interval during the year. However, if you have a 403(b) (which are also tax-deferred accounts), your RMD must be taken from a 403(b). It cannot be taken from an IRA.
- Penalty: If you do not take your RMD in the year that it should be taken, the IRS will assess a 50% penalty on the undistributed amount, and you still have to take the belated RMD and pay taxes on it. This is something that you might want to have on autopilot! Set up an automatic distribution to make sure it is distributed on a timely basis.
- Important to Note: IRA owners over 70½ can transfer an amount from their IRAs directly to a qualified charity. This amount can count towards their RMD, but is not included in the owner’s adjusted gross income. This may be a good strategy if the owner doesn’t need the distribution to live on.
This is a complicated topic. It is important to talk to your advisor to fully understand the rules and tax implications. I’m happy to answer any questions you may have. May you be healthy and wealthy! (For related reading, see: Turn Retirement Cash Flow Into Your Own Paycheck.)