What You Need to Know About Required Minimum Distributions Before December 31
The end of the year is often a joyous time with decorations and colorful lights, children’s performances, and meditating on the gift that God gave us in his son, Jesus Christ. Amidst all of the festivities, it’s also important to keep an eye on your personal finances. And that’s not just keeping your Christmas gift spending in check, but making sure you have completed your required minimum distributions.
What is a Required Minimum Distribution?
Most of the retirement accounts that you’re probably familiar with, like a 401(k), 403(b), or IRA, are tax-deferred. That means the government didn’t make you pay any taxes on your money before you put it into the account but you will be taxed on it when it comes out. It’s very generous of them to let you put off paying taxes, but they won’t let you put it off forever. They instituted Required Minimum Distributions (RMDs) so that they could start collecting some of the tax revenue that they let you defer by forcing you to take money out.
Once you reach age 73, you have to start taking money out of your non-Roth retirement accounts, even if you don’t need it to live on. The amount you have to withdraw is calculated by the IRS based on your age and life expectancy. Your first RMD at age 73 will be around 4% of the account value, but you can use this calculator to get exact numbers. If you have an inherited IRA, then you are also subject to RMDs even before you turn 73 but the rules are a little more complex.
When Do They Need to be Taken?
The year you turn 73, you can wait all of the way until April 1 of the following year to take your first RMD. After that, your annual RMD deadline is December 31.
What is the Penalty for Not Taking One?
If you don’t withdraw your entire RMD by the deadline, you will be penalized. Right now, the penalty is 25% of the amount you failed to withdraw. That sounds like a lot, but it used to be 50%! Under certain circumstances, the penalty can even be lowered to 10%.
Let’s look at an example to see how it works. Let’s say your RMD for 2024 is $10,000. If you only withdraw $8,000 from your accounts, then you have to pay a penalty on the $2,000 difference of $500 (0.25*2,000).
It’s not only important to take the right amount of RMD, but you also need to make sure to take it from the right places. If you have multiple IRAs, then you have to calculate each RMD separately for each account but can take the full amount from a single IRA account. It’s the same for 403(b)s, where it doesn’t matter which 403(b) account the RMDs come from. However, with all other types of retirement plans, such as 401(k)s, each RMD must be taken from its corresponding account.
For example, let’s say you have 3 different 401(k) accounts with equal balances and RMDs of $2,000 each. If you withdraw $2,000 from each account then you have met your Required Minimum Distributions for the year and will not be penalized. However, if you withdraw $6,000 from only one of the accounts, you haven’t met the RMD for the other two and will have to pay a $1,000 penalty—25% of the $4,000 you failed to withdraw from the other two accounts.
What to Do With Your RMD if You Don’t Need the Money
A lot of people take their RMDs because the government needs the tax money, not necessarily because they need the money to fund their living expenses. When that’s the case, some of our clients simply reinvest the money into a taxable brokerage account where it can keep growing to fund future travel, home projects, inheritances, and the like. Others take the charitable route.
Tax-Efficient Charitable Giving
When taking the charitable route, you can take the RMD from your account, pay the taxes on the withdrawal, and then donate what is left to the charity of your choice. But if you are over age 70 ½, there is a much better way: Qualified Charitable Distributions.
Qualified Charitable Distributions (QCDs) allow you to donate funds directly from a traditional IRA to a charity without having it be taxable income to you. You save on taxes and the charity ends up with more money, so it’s a double win. Another great benefit is that QCDs can also satisfy your RMD.
For example, let’s say your RMD for 2024 is $10,000 again. If you were to make QCDs of $5,000 to your church, $2,000 to a missions organization, and $1,000 to your local humane society, then you would only need to withdraw an additional $2,000 to satisfy your RMD. Out of the $10,000 RMD you satisfied, only $2,000 of it would show up as taxable income on your tax return.
Required Minimum Distributions, and IRS rules in general, can be complex and confusing, so it can be helpful to work with a knowledgeable financial professional. If you need help making sense of your RMD or what to do with it, we would be happy to help. You can schedule a free introductory phone call here.
And remember, if you’re over 73 or have an inherited IRA, make sure to take your 2024 RMD before December 31!
About Guide Financial Planning
Guide Financial Planning is led by founder Ben Wacek, who is a Christian fee-only Certified Financial Planner® and Certified Kingdom Advisor®. He has a passion for helping people of all income levels make wise financial decisions and steward their resources from an eternal perspective using Biblical principles. Based in Minneapolis, MN, he works with clients both locally and virtually throughout the country and abroad. You can follow the links to learn more about Guide Financial Planning and our team and the services we offer.