Required Minimum Distributions (RMDs): When to Start, How They Work, and Avoiding Costly Mistakes

Planning for retirement involves more than just saving — it also means understanding how and when to withdraw your funds. One of the most important rules retirees in the United States must follow is the Required Minimum Distribution (RMD). If you’re approaching retirement or already retired, understanding RMDs is essential to avoid costly penalties and ensure your financial plan stays on track.

What Are Required Minimum Distributions (RMDs)?

Required Minimum Distributions (RMDs) are the minimum amounts that the IRS requires you to withdraw annually from your tax-deferred retirement accounts, such as Traditional IRAs, 401(k)s, 403(b)s, and other similar plans. The purpose of RMDs is to ensure that individuals eventually pay taxes on the money they deferred during their working years.

The IRS mandates RMDs because these retirement accounts are funded with pre-tax dollars. While your investments grow tax-deferred, the government wants to collect taxes eventually — and RMDs are how they make sure that happens.

When Do RMDs Start?

As of recent IRS guidelines, RMDs must begin by April 1 of the year following the calendar year in which you turn age 73. This rule applies to individuals who reach age 72 after January 1, 2023. If you turned 72 before that date, your RMDs would have started under the previous rule.

After your first RMD, which can be delayed until April 1 of the following year, all subsequent RMDs must be taken by December 31 each year. Keep in mind that if you delay your first RMD until April 1, you’ll need to take two RMDs in that year — one for the previous year and one for the current year — which could significantly increase your taxable income.

How Are RMDs Calculated?

RMDs are calculated based on your account balance at the end of the previous year and your life expectancy, as determined by IRS life expectancy tables. The most commonly used table is the Uniform Lifetime Table, which applies to most account holders.

Here’s a simplified example:
– Let’s say your IRA balance on December 31 of last year was $500,000.
– If you are 75 years old, the IRS Uniform Lifetime Table might give you a life expectancy factor of 22.9.
– Your RMD would be $500,000 ÷ 22.9 = $21,834.06

You must calculate the RMD separately for each retirement account, but you can withdraw the total amount from one or more of your IRAs. However, for employer-sponsored plans like 401(k)s, you must take the RMD from each individual account.

Which Accounts Are Subject to RMDs?

RMDs apply to the following types of accounts:
– Traditional IRAs
– SEP IRAs
– SIMPLE IRAs
– 401(k), 403(b), and 457(b) plans
– Profit-sharing plans

Roth IRAs are not subject to RMDs during the account holder’s lifetime. However, Roth 401(k)s were subject to RMDs until 2023. Beginning in 2024, Roth 401(k)s are no longer subject to RMDs during the account holder’s lifetime, aligning them more closely with Roth IRAs.

Penalties for Missing an RMD

Failing to take your RMD can result in a steep penalty. Historically, the IRS imposed a 50% excise tax on the amount not withdrawn. However, recent legislation reduced this penalty to 25%, and in some cases, it can be further reduced to 10% if the error is corrected in a timely manner.

For example, if your RMD was $10,000 and you failed to take it, you could owe a penalty of $2,500. That’s in addition to the regular income tax you would have paid on the distribution.

Strategies to Avoid RMD Mistakes

1. Set calendar reminders: Don’t wait until the last minute. Set up reminders to review your RMDs early in the year.
2. Work with a financial advisor: A qualified advisor can help calculate your RMDs and determine the best withdrawal strategy.
3. Consider Qualified Charitable Distributions (QCDs): If you’re 70½ or older, you can donate up to $100,000 per year directly from your IRA to a qualified charity. This counts toward your RMD and is excluded from your taxable income.
4. Consolidate accounts: Having multiple retirement accounts can complicate RMD calculations. Consolidating can simplify the process.

Special Considerations for Still-Working Individuals

If you are still working at age 73 and do not own more than 5% of the company you work for, you may be able to delay RMDs from your current employer’s retirement plan until you retire. This rule does not apply to IRAs or to retirement plans from previous employers.

Final Thoughts

Understanding RMDs is a critical part of retirement planning. Not only do they affect your taxable income, but they can also impact your Medicare premiums and Social Security taxation. Planning ahead and working with a professional can help you avoid unnecessary taxes and penalties.

Disclaimer

This article is for informational purposes only and does not constitute financial, tax, or legal advice. Please consult with a qualified financial advisor, tax professional, or attorney before making any decisions regarding your retirement accounts or Required Minimum Distributions. The IRS rules and regulations are subject to change, and individual circumstances vary.

References

– Internal Revenue Service (IRS): https://www.irs.gov/retirement-plans/retirement-plans-faqs-regarding-required-minimum-distributions
– SECURE Act 2.0 Summary: https://www.congress.gov/bill/117th-congress/house-bill/2954