Required Minimum Distributions Considerations
It’s critical to properly calculate your Required Minimum Distribution (RMD) amount each year to avoid major tax consequences. Not taking a RMD, or not withdrawing enough, could mean a 50% excise tax on the amount not distributed. Here’s what you need to know about calculating RMDs and recent RMD changes.
An RMD is a minimum amount you must withdraw from your retirement account each year. Recent legislation enacted by the SECURE Act changed the starting RMD age to 72 for those turning that age after 1/1/20. This means that you have to take your first RMD by April 1 of the year after you reach the age of 72. For all subsequent years, including the year in which you were paid the first RMD by April 1, you must take the RMD by December 31 of the year. Proposed legislation is further trying to increase the starting RMD age to 75.
An RMD is calculated by dividing the prior year-end account balances by a life expectancy factor in the IRS Uniform Lifetime Table. Each year someone’s life expectancy is reduced by one, so the denominator of the equation is reduced by one.
In your 70s, your RMD is 3.44% - 4.74%, but in your 90s it is 8.2% to 14.71% of your IRA balance. If your IRA account balance was the same amount every December 31, then the RMD dollar amount would gradually decrease.
However, depending on how the IRA is invested, especially in the early years, investment returns can outpace the RMD percentage, increasing the value of the IRA. If an IRA account balance goes up enough, you can see a higher RMD amount the following year.
In 2020, the Standard and Poor's 500 (S&P 500) was up over 18%. In addition, the CARES Act allowed for 2020 RMDs to be waived. The investment returns alone were strong enough that most individuals (depending on their individual return and age) saw an increase in their December 31 IRA balance and an increase in their 2021 RMD amount. In addition, if they did not take their 2020 RMD (which would have lowered their account value) they could have seen significant increases in their December 31 account value and the dollar amount of their 2021 RMD.
More importantly, the SECURE Act essentially did away with the stretch IRA. This means that most non-spousal beneficiaries have 10 years to distribute an inherited IRA, which could cause negative tax implications. Donors may want to rethink what assets they leave to charities and heirs, potentially making Qualified Charitable Distributions (QCDs) more desirable. The QCD rule is that if you are 70.5 (and are charitably inclined) you can make a QCD up to $100,000 annually directly from your IRA. This can be a particularly beneficial strategy if you already must take a Required Minimum Distribution (RMD) as a QCD counts towards your RMD and allows you and your charity to avoid income tax on your RMD.
This article is contributed by HHM Wealth Advisors, LLC, a RPAG member firm. Visit www.HHMWealth.com or www.rpag.com. Neither HHM Wealth nor RPAG are in the business of providing legal advice with respect to ERISA or any other applicable law. The materials and information do not constitute, and should not be relied upon as, legal advice. The materials are general in nature and intended for informational purposes only.
For more information about RMDs, please contact your advisor.