What Are RMDs?

Illustration of highlighter and notepad with the words "Required Minimum Distribution"

Many investors contribute to an account like an IRA or a 401(k) to take advantage of tax benefits as they save for their retirement. However, you cannot keep your funds in them indefinitely. 

Once you reach a certain age, many types of retirement accounts require you to take a minimum withdrawal each year. This amount is called the RMD, which stands for required minimum distribution. 

What Are RMDs? 

RMDs are the minimum amount of money you must withdraw from your tax-advantaged retirement account each year by a certain age. You can make withdrawals in any amount above your RMD amount, including withdrawing 100% of your funds, but you must take at least the minimum. 

You’ll be required to take RMDs if you have a retirement account like a traditional IRA or a 401(k). With these type of retirement accounts, you contribute pre-tax money, which lowers your income tax for that year. Then, you pay income taxes when you withdraw your funds – for many people is in their retirement years when they are in a lower tax bracket. 

The IRS sets a required minimum distribution to ensure it will receive some taxation on your earnings and that you don’t avoid paying taxes. RMD rules apply to traditional IRAs, SEP IRAs, SIMPLE IRAS, 401(k) plans, and other defined contribution plans. A defined contribution plan is one in which employees contributed a fixed percentage of their paycheck to their retirement account. 

RMD rules do not apply to Roth IRA account owners while they are living. 

When Are RMDs Required? 

You must start taking RMDs when you reach age 72. (People who were born before July 1, 1949, were required to start taking RMDs at age 70½.) 

You usually need to take your first RMD withdrawal by April 1 of the year after you turn 72. For some employer-sponsored 401(k)s and other defined contribution plans, you may be able to delay taking RMDs until you retire if the plan allows it. Following the first year, RMDs must be made by Dec. 31 each year.1  

If you don’t take the full required minimum distribution amount, then you’ll face penalties. You would likely have to pay a 50% excise tax on the portion of your RMD that was not distributed.2  

How RMDs Are Calculated 

To calculate your RMD, divide your total account balance as of Dec. 31 of the previous year by your life expectancy factor, which is defined by the IRS according to your age. The IRS publishes life expectancy tables in Publication 590b, Table III (Uniform Lifetime Table).3  

For example, let’s say you are 74 and you have $400,000 in your IRA as of Dec. 31 of the year prior. You will divide $400,000 by your life expectancy factor, which the IRS defines as 25.5. 

$400,000 / 25.5 = $15,686.27 

So, for that year, your required minimum distribution would be $15,686.27. If it is the first year for your RMD, you need to make the withdrawal by April 1. For later years, you need to make the withdrawal by Dec. 31. 

If you have several retirement accounts, you will need to calculate the RMD for each one and take withdrawals from each account every year. 

How RMDs Are Taxed 

Required minimum distributions are taxed as income the year you receive it. You’ll report all your withdrawals, including RMDs, as income and then pay taxes according to the rate of your tax bracket. For many investors, their tax bracket is lower in their retirement years, so the rate they pay is lower than the rate they would have paid the year they made the contribution. This is one significant advantage of tax-deferred contributions. 

In addition, you can count a qualified charitable distribution (QCD) toward your required minimum distribution and exclude it from your adjusted gross income (AGI). A QCD is made from a traditional IRA directly to a qualified charitable organization, which is essentially an official charity. You can use QCDs to lower your taxable income if you don’t need to use your RMD for living expenses.4

Are RMDs Required for a Roth IRA? 

Roth IRAs have different tax advantages than traditional IRAs. With a Roth account, you contribute after-tax money, so you don’t get immediate tax benefits. When you retire, you can withdrawal your funds, including any gains on investments, tax-free. 

With a Roth IRA, withdrawals are not required until the account owner dies. 

Although Roth 401(k) contributions are made with after-tax funds, they do require an RMD. They are subject to the same RMD requirements as traditional 401(k)s, including the age you must start taking withdrawals and the amount of the withdrawals. Some investors roll their Roth 401(k) funds over to a Roth IRA before they retire so they can avoid RMDs. 

Have questions about RMDs? 

Talk to a qualified financial advisor today to get professional advice today. Need help finding a financial advisor in your area? Give us a call today so we can match you with an advisor who will put your needs first.  

1 IRS.gov, “Retirement Topics – Required Minimum Distributions (RMDs)” https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-required-minimum-distributions-rmds

2 Internal Revenue Service, “Distributions from Individual Retirement Arrangements (IRAs)” 2021 Publication 590-B. https://www.irs.gov/pub/irs-pdf/p590b.pdf

3 Investor.gov, “Required Minimum Distribution Calculator” https://www.investor.gov/financial-tools-calculators/calculators/required-minimum-distribution-calculator

4 IRS.gov, “IRS reminds retirees of April 1 deadline to take required retirement plan distributions” https://www.irs.gov/newsroom/irs-reminds-retirees-of-april-1-deadline-to-take-required-retirement-plan-distributions 

Distributions from traditional IRA’s and employer sponsored retirement plans are taxed as ordinary income and, if taken prior to reach age 59 ½, may be subject to an additional 10% IRA tax penalty. A Roth IRA offers tax free withdrawals on taxable contributions. To qualify for tax-free and penalty free withdrawal or earnings, a Roth IRA must be in place for at least five tax years, and the distribution must take place after age 59 ½ or due to death, disability, or a first time home purchase (up to a $10,000 lifetime maximum). Depending on state law, Roth IRA distributions may be subject to state taxes.

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