Getting Ready to Take a RMD? Here’s a 4-Point Checklist.

Jim Lorenzen, CFP^®, AIF^®

Remember the 1990s?  That was when every business channel had multiple programs with business gurus picking and ranking mutual funds.  It was a time when many mutual fund managers were becoming the ‘rock stars’ of financial meda.  Everyone wanted to know what Peter Lynch, Bill Gross, and others were buying, selling, and saying.

If you were one of those following all those shows back then, you were no doubt thinking about your financial future.  And, if you were born in the years following 1946, chances are you’re a ‘baby boomer’ – a term we’re all familiar with by now.

I read somewhere that there are 65,000 boomers turning age 65 every year!  And, those turning 70-1/2 have hit a big landmark:  It’s the year – actually it’s up until April 1^st of the following year – Uncle Sam begins sticking his hand into your retirement account – after all, he is your partner; and, depending on your combined state and federal tax-bracket, his ownership share can be pretty significant, depending on the state you live in.  Yes, that’s when you must begin taking required minimum distributions (RMDs).

By the way, if you do wait until April 1^st of the following year, you’ll have to take TWO distributions in that year – one for the year you turned 70-1/2 and one for the current year.  Naturally, taking two distributions could put you in a higher tax bracket; but, Uncle Sam won’t complain about that.

So, now that you’ve been advised of one trap that’s easy to fall into, what are some of the others?  You might want to give these concerns some thought – worth discussing with your tax advisor, as well as your financial advisor.

1. Not all retirement accounts are alike.
   • IRA withdrawals, other than Roth IRAs, must be taken by December 31^st of each year – and it doesn’t matter if you’re working or not (don’t forget, there is a first year exemption as noted earlier).
   • 401(k) and 403(b) withdrawals can be deferred past age 70-1/2 provided you’re still working, you don’t own more than 5% of the company, and your employer’s plan allows this.
   • As noted, Roth IRAs have no RMD requirements.  Important:  If you’re in a Roth 401(k), those accounts are treated the same as other non-Roth accounts.  The key here is to roll that balance into a Roth IRA where there will be no RMDs or taxation on withdrawals.

2. 

   Get the amount right!

   The amount of your total RMD is based on the total value of all of your IRA balances requiring an RMD as of December 31^st of the prior year. You can take your RMD from one account or split it any or all of the others.  Important:  This doesn’t apply to 401(k)s or other defined contribution (DC) plans… they have to be calculated separately and the appropriate withdrawals taken separately.

3. Remember: It’s not all yours!

You have a business partner in your 401(k), IRA, and/or any other tax-deferred plan:  Uncle Sam owns part of your withdrawal.  How much depends on your tax bracket – and he can change the rules without your consent any time he wants.  Some partner.   Chances are you will face either a full or partial tax, depending on how your IRA was funded – deductible or non-deductible contributions.  Important:  The onus is on you, not the IRS or your IRA custodian, to keep track of those numbers.  Chances are your plan at work was funded with pretax money, making the entire RMD taxable at whatever your current rate is; and, as mentioned earlier, it’s possible your RMDs could put you in a higher tax bracket.

It’s all about provisional income and what sources of income are counted.  The amount that’s above the threshold for your standard deduction and personal exemptions are counted.  By the way – here’s something few people think about:  While municipal bond interest may be tax-free, it IS counted as provisional income, which could raise your overall taxes, including how much tax you will pay on Social Security income.   Talk to your tax advisor.

4. Watch the calendar.

   If you fail to take it by December 31^st of each year – even if you make a miscalculation on the amount and withdraw too little – the IRS may hit you with an excise tax of up to 50% of the amount you should have withdrawn!  Oh, yes, you still have to take the distribution and pay tax on it, too!   There have been occasions when the IRS has waived this penalty – floods, pestilence, bad advice, etc.

Remember to talk with your tax advisor. I am not a CPA or an attorney (and I don’t play one on tv); but, of course, these are issues that come up in retirement planning and wealth management quite often.

Happy retirement!

Jim

Jim Lorenzen is a CERTIFIED FINANCIAL PLANNER^® professional and an ACCREDITED INVESTMENT FIDUCIARY^® serving private clients since 1991.   Jim is Founding Principal of The Independent Financial Group, a  registered investment advisor with clients located across the U.S.. He is also licensed for insurance as an independent agent under California license 0C00742. The Independent Financial Group does not provide legal or tax advice and nothing contained herein should be construed as securities or investment advice, nor an opinion regarding the appropriateness of any investment to the individual reader. The general information provided should not be acted upon without obtaining specific legal, tax, and investment advice from an appropriate licensed professional.