The temporary reprieve is over. Due to the COVID-19
pandemic, Congress suspended the rules for required minimum distributions
(RMDs) in 2020, including inherited accounts. But the rules have been restored
for the 2021 tax year. Essentially, participants in qualified plans and IRAs
who’ve reached their required beginning date must take 2021 distributions or
potentially pay a hefty penalty.
The deadline for RMDs is December 31, 2021 (later for those
that reach the required age in 2021), but you should get your ducks in a row
before then.
Starting point
Be aware that the RMD rules apply to employer-based
retirement plans — including pension and profit-sharing plans, 401(k) plans,
403(b) plans for nonprofits and 457(b) plans for government entities — as well
as traditional IRAs. Roth IRAs — other than those that are inherited — are
exempt from distributions.
Previously, the required beginning date for participants in
these plans was April 1 of the year following the year in which you turned age
70½. However, the Setting Every Community Up for Retirement Enhancement
(SECURE) Act pushed the required beginning date to age 72, as of 2020.
Therefore, if you turn 72 this year, you must begin taking distributions from
qualified plans and IRAs by April 1, 2022.
But remember that RMD rules continue to apply for each
succeeding tax year with a deadline of December 31. Thus, for the 2022 tax
year, the usual deadline for RMDs is December 31, 2022. So, if you’re turning
age 72 in 2021, you may end up taking two year’s worth of RMDs in the same tax
year.
To avoid this scenario, you might arrange to receive your
initial RMD in 2021. Calculate your tax liability both ways before the clock
strikes twelve on December 31.
Ins and outs of withdrawals
How much is your annual RMD? It depends on the value of the
account on December 31 of the prior year. In other words, your RMD for 2021 is
based on the account balance as of December 31, 2020. The IRS has created
tables for calculating your RMD, but you may also use an online calculator or
have your financial advisor perform the calculations for you.
Depending on your situation, you may be able to “pick your
poison” when it comes to taking distributions if you own multiple accounts.
(See “When one RMD is enough” below.)
Of course, there’s nothing stopping you from taking more
than the required amount based on the IRS tables. Just be aware that this
reduces your nest egg for the future and should be accounted into your estate
plan.
If you fail to meet your RMD obligations, the IRS can impose
a steep penalty equal to 50% of the amount that should’ve been withdrawn
(reduced by any actual withdrawals). For example, if the required withdrawal is
$20,000 and you took out only $5,000, the penalty is $7,500 (50% of $15,000) —
that’s in addition to the regular income tax you owe on the distributions.
Other factors to consider
You don’t have to take RMDs from a qualified plan of an
employer if you still work full-time for the employer and you don’t own more
than 5% of the company. But this “still working exception” applies only to
qualified plans such as 401(k) plans — not IRAs.
Alternatively, you might transfer up to $100,000 directly
from an IRA to a charity without paying any federal income tax on the
distribution ($200,000 for a married couple if both spouses separately
qualify). But these “qualified charitable distributions” (QCDs) aren’t tax
deductible, even if you itemize. Extra tax incentive: QCDs count as RMDs that
can satisfy your obligations for the year.
For inherited accounts where the original owner died after
2019, a nonspouse beneficiary is generally required to complete withdrawals by
December 31 of the tenth year after the original owner’s death. RMD rules for
accounts inherited prior to 2020 are calculated differently.
Note, though, that if the account owner dies after the
required beginning date, and hasn’t taken an RMD for the year of death, then
the beneficiaries of the account must take the account owner’s RMD as a
distribution for that year.
Spousal beneficiaries have greater flexibility than
nonspousal beneficiaries, including being able to treat the account as his or
her own, regardless of when the original owner died.
Year end is approaching
The temporary, one-year reprieve for taking RMDs has passed.
Make arrangements now for your RMD in advance of the December 31 deadline.
Also, confirm the required amount with your advisor to ensure you’re not
overpaying yourself.
SIDEBAR: When one RMD is enough
Generally, IRA participants take a required minimum
distribution (RMD) annually from each account to meet their obligations and
avoid penalties. But it doesn’t have to be that way.
If it suits your purposes, you can arrange to receive the
total amount required from just one IRA (or perhaps two or three). It doesn’t
matter where you take the money from as long as at least the minimum amount of
total dollars is paid out. This could be preferable based on investment
performance in various accounts.
This option generally isn’t available for qualified plans
like 401(k) plans. RMDs must be taken separately from each of these plan
accounts.
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