What you need to know
We are always reminded to save for retirement on tax accounts, such as a 401 (k) or IRA. But did you know that the government works around the eyes and forces us to take money out of those accounts when we retire? This is called the Minimum Distribution Rule (RMD). Here are some tips you should know about RMDs before you reach retirement age.
There is no more one-year break. The required minimum allocation rules were suspended in 2020. They are now reactivated for 2021. This will surprise many, so remind all loved ones over the age of 72 to perform a distribution calculation!
The fines are high. The rules require you to withdraw a certain amount of money each year from tax deferral plans like 401 (k) and traditional IRAs after you turn 72, whether you like it or not. These withdrawals are taxed as ordinary income. If you do not comply with these rules, the IRS may estimate a penalty of 50 percent of the amount that should have been withdrawn, in addition to the regular tax due.
Start thinking about withdrawing early. One of the biggest mistakes is waiting until the age of 72 to start thinking about the necessary distributions. Keep in mind that you can start withdrawing funds from your retirement account without penalty after you turn 59 years old. If you start planning a tax-efficient withdrawal strategy before the necessary distribution rules are triggered, you can manage the tax rate that will apply to your pension distributions.
Distribution amounts are based on complex tables. How much you need to raise is based in part on the average life expectancy of someone your age. The calculation based on the IRS life expectancy tables, plus the retirement account balance from the previous year, is used to determine the required payments. The good news is that the financial institution that maintains your retirement account will usually calculate for you.
There are exceptions to distributions if you continue to work. If you turn 72 and still work for an employer that gives you 401 (k), you usually don’t have to take a distribution from that account until you own 5 percent or more of the companies. However, you still need to take funds from other plans in which you have funds.
Not all accounts are required for distribution. Not all retirement accounts require the required minimum distribution. For example, Roth IRA accounts avoid the minimum allocation requirement, giving you additional flexibility in managing other taxable withdrawals during retirement.
RMD rules can be confusing and are a good example of why tax planning is such an important component of a pension strategy. Call if you have questions regarding any tax liabilities related to your retirement accounts.
James Angell is a certified public accountant based in Willits. His office is located at 461 S. Main St., and you can reach him at 459-4205.