Required Minimum Distributions

     Most people have either a 401k or other company plan through their employer or maintain a Traditional IRA to save for retirement. More and more, I’ve seen people that have the majority of their investments, retirement or not, in these types of accounts. That’s a problem we will attempt to solve another day. For now, know that, eventually, you are going to have to take money out of your IRA. And, most likely, you are going to have to pay taxes on that money. 

     These “forced withdrawals” are more formally known as “Required Minimum Distributions” or ” RMD’s”. For this article we will focus on RMD’s from Traditional IRA’s.  

     A Traditional IRA is an account that you put money into in order to save for retirement. For many, the money that goes in is deductible on your tax return. For others in higher income brackets, the deduction for these contributions is either phased out or eliminated completely. In this scenario, the non deductible contribution becomes a part of the “basis” in the IRA. 

     Once the money is in the account, it is invested and, hopefully over time, generates earnings. These earnings are not taxed until they are withdrawn. They are referred to as “tax deferred”, which means they are not “tax free” but rather taxed at a later date.

     That “later date” is April 1st of the year after you turn seventy and one half years young. This is called your “Required Beginning Date” or RBD. This is when the earnings that have been tax deferred for all those years will be considered as ordinary income on your tax return. Basically, the government wants its tax revenue.

How do you calculate your RMD?

This is a question for your tax advisor but I will give a basic example.

1. Determine the balance of your IRA on December 31st of the prior year. We will use a cool $1 million for this example.

2. Then determine which table you need to use from the IRS and find your divisor.

In this example, we are taking our first distribution, which has a divisor of 27.4.

3. Take your prior year ending balance and divide it by the divisor for your age.

      Here, we take $1,000,000 and divide it by 27.4. This gives us a required minimum distribution of $36496.35. This is the amount that must be withdrawn by April 1 if this is your first RMD. Ever year after is due by December 31st.

      So, what if you forget to take your RMD? Well, that can be costly, as the IRS assesses a fifty percent penalty on the amount not taken. In this example that equates to a penalty of $18,248.17 on top of the distribution. That’s a lot of dough and, if you find yourself in this situation, you need to contact a qualified advisor to help you through it.
DISCLOSURE: This article was written for informational purposes only. It is not intended as investment advice and should not be relied upon as such. Consult with a qualified financial advisor or tax professional to determine the proper investment plan for you and your circumstances. I do not personally own or plan to purchase any investments spoken of here.