For many of us, the end of the year is filled with multiple tasks – from shopping and decorating to holiday parties and charity functions. One important to-do for those with a tax-advantaged retirement account that can’t be forgotten is to take required minimum distributions (RMDs) by year end.
A huge penalty
After you reach age 70½, you generally must take annual RMDs from your:
- IRAs (except Roth IRAs), and
- Defined contribution plans, such as 401(k) plans (unless you’re still an employee and not a 5%-or-greater shareholder of the employer sponsoring the plan).
An RMD deferral is available in the initial year, but then you’ll have to take two RMDs the next year. The RMD rule can be avoided for Roth 401(k) accounts by rolling the balance into a Roth IRA.
For taxpayers who inherit a retirement plan, the RMD rules generally apply to defined-contribution plans and both traditional and Roth IRAs. (Special rules apply when the account is inherited from a spouse.)
RMDs usually must be taken by December 31. If you don’t comply, you can owe a penalty equal to 50% of the amount you should have withdrawn but didn’t.
Should you withdraw more than the RMD?
Taking only RMDs generally is advantageous because of tax-deferred compounding. But a larger distribution in a year your tax bracket is low may save tax.
Be sure, however, to consider the lost future tax-deferred growth and, if applicable, whether the distribution could: 1) cause Social Security payments to become taxable, 2) increase income-based Medicare premiums and prescription drug charges, or 3) affect other tax breaks with income-based limits.
Also keep in mind that, while retirement plan distributions aren’t subject to the additional 0.9% Medicare tax or 3.8% net investment income tax (NIIT), they are included in your modified adjusted gross income (MAGI). That means they could trigger or increase the NIIT, because the thresholds for that tax are based on MAGI.
If you have a tax-advantaged retirement account and have reached age 70½ or have inherited such an account, JLK Rosenberger can help you create tax-savings strategies for your retirement plan distributions. For more information about RMDs, call us at 949-860-9902 or click here to contact us.