If you're a saver, you've been stashing away your retirement savings for many years, but unfortunately all good things must come to an end. Per the IRS, individuals cannot keep money in their retirement account indefinitely. Although it may be the dream of many savers to save for an eternity, the IRS requires individuals to take a minimum distribution from their retirement account.
The minimum distribution is the minimum amount of money a retiree must withdraw from their retirement plan on an annual basis. More than the minimum distribution can be withdrawn during the year if the owner decides that's what they want.
In general, RMDs must be taken from the following types of accounts:
Note: While the plan owner is still alive, there is no required minimum distribution from a Roth IRA.
Age for RMDs
The age that the minimum distribution is required has changed over the last few years, thanks to the Setting Every Community Up for Retirement Enhancement (SECURE) ACT. If the planholder turns 70½ on or after Jan. 1, 2020, the planholder is not required to take a distribution from the plan until the age of 72. However, if the retiree was born before July 1, 1949, distributions begin at age 70½.
Date of distribution
Retirees who reached the age of 70½ in 2019 or in an earlier year didn't have an RMD due for 2020. This was a temporary waiver under the CARES ACT, but for 2021, retirees will have an RMD due by Dec. 31, 2021.
Retirees must make their first distribution from their retirement plans during the first year following the year the retiree turns 70½ (or 72 if born after June 30, 1949). The retiree will have two distribution dates: April 1 and December 31.
However, the retiree can also take the first distribution on December 31 of the year the retiree reaches 70½ (or 72 if born after June 30, 1949) so the distribution will be received in separate tax years. This strategy could potentially help to relieve some of the tax burden.
To figure the minimum distribution amount, retirees will need to complete a few simple calculations. The retiree will need to divide the IRA account balance as of December 31 of the year before the distribution is being made by the distribution period/life expectancy. The life expectancy table can be found in Appendix B of IRS Publication 590-B.
Retirees can also use a RMD calculator or the IRS's RMD worksheet to calculate the minimum distribution amount.
If the retiree owns multiple accounts, the required distribution needs to be taken from each account to figure the total minimum distribution amount.
If you aren't the original account owner but are the beneficiary (e.g., surviving spouse) of a retirement account, the distribution rules slightly differ. In general, in the year of the original account owner's death, the beneficiary of a retirement plan will take the same minimum distributions as the original account holder. For all subsequent years, the RMD depends on the identity of the designated beneficiary and the type of account that has been inherited.
It spans beyond the scope of this article to outline the specific RMD rules for each relationship type and plan type, but in general, the entire distribution must be made within 10 years of inheriting the account. For specific guidance, reviewing IRS Publication 590-B and consulting with an advisor is advisable.
If a retiree fails to take the required distribution, there's a hefty penalty. If a planholder fails to take the minimum distribution by the deadline, the amount not withdrawn will be taxed at 50%.
Waiver of penalty
If you've been penalized for failure to take a required distribution, you can request a waiver if you're able to show there's reasonable cause for failing to take the distribution. A waiver of penalty can be requested by filing IRS Form 5329.
If a retiree or designated beneficiary receives a distribution from a retirement plan, the distribution and any taxes withheld will be reported on IRS Form 1099-R. Any distribution received must be included in the retiree's or beneficiary's taxable income for the year and reported on the recipient's income tax return.
The Millionacres bottom line
While the retirement years are meant to be the golden years of life, there are still so many financial decisions retirees find themselves making. To keep those years as golden as possible, advance tax planning is a must when it comes to taking a required minimum distribution. If it's time to take a minimum distribution, don't go it alone. Consulting with a competent advisor and receiving investment advice will help to ease the burden.