What You Need to Know about Required Minimum Distributions

The closer you get to retirement, the more you might start hearing about required minimum distributions. Required minimum distributions (RMDs) are minimum amounts that you are required to withdraw from your traditional pre-tax funded retirement accounts each year after you reach a certain age prescribed by Congress. Specifically, RMDs apply to employer-sponsored retirement plans (including 401(k), 403(b), 457(b), and TSP accounts) and traditional IRAs. There are more complex rules around SEP IRAs and SIMPLE IRAs that you can read about here.

When do you have to take RMDs?

The age at which retirement plan participant must begin taking required minimum distributions from traditional retirement accounts varies based on their age today, but under current law, it ranges between age 73 – 75. For the first year only, you can delay until April 1 of the year following your required beginning date, but after that first year, all distributions must be taken by December 31 of each subsequent year.

If you were born after December 31, 1960 and choose to wait until April 1 of that first year, you will actually have to take two distributions in a single calendar year (the April distribution for the year in which you turned 73 years old, and then your second year’s distribution by December 31). This has the potential to significantly increase your taxable income – talk to a financial adviser if you need more information about the tax implications of RMDs and the choice that is best for your particular situation.

If you have Roth accounts, including a Roth IRA or designated Roth accounts within an employer-sponsored retirement account, you are not required to take RMDs, as Roth accounts are not subject to RMD regulations. This is because contributions to these accounts are made with after-tax dollars, and RMDs are a way for the IRS to collect taxes on funds that were deposited tax deferred.

Note that if you are still working, you can defer the RMD on your current employer’s sponsored retirement account until you retire, but you are still required to take RMDs from your other retirement accounts (including traditional IRAs and employer-sponsored accounts that you did not rollover, etc.).

How are RMD amounts calculated?

The amount of your distribution is calculated by dividing the account’s previous year’s end balance by the distribution period (based upon life expectancy) published by the IRS. Tables to help you with these calculations are published each year – and you are responsible for calculating the correct RMD amount for each of your accounts, so it’s important to make sure you’re using the most up-to-date table.

The IRS publishes different tables for different situations:

• Individuals who have their spouse (who is at least 10 years younger) listed as their beneficiaries use the Joint Life and Last Survivor Expectancy table.

• Individuals who are unmarried, who have their spouses (who are not at least 10 years younger) listed as their beneficiaries, or who have multiple beneficiaries listed on their accounts use the Uniform Lifetime table.

• Beneficiaries of retirement accounts (those who inherit a loved one’s account after death) use the Single Life Expectancy table.

Example: When filing 2023 taxes, an unmarried 75-year-old individual would calculate their RMDs using the Uniform Lifetime table, which shows a distribution period of 24.6 years. If their TSP had $80,000 invested in traditional subaccounts as of December 31, 2022, their 2023 RMD comes to $3,252.03, which is the amount that must have been withdrawn by December 31, 2023.

If you have multiple retirement accounts:

• If you have multiple traditional IRAs, you must calculate your total RMD by adding up the RMD specific to each account. However, you may be able to withdraw the total RMD amount from a single account, instead of spreading your RMDs among all IRAs.

• If you have multiple employer-sponsored retirement accounts, you must calculate your RMD for each account and withdraw that same percentage from each account. If you pull the total RMD amount from a single employer-sponsored retirement account, you may be penalized for failing to withdraw the correct amount from your other accounts.

While the IRS does dictate the amount of your RMDs and the accounts from which distributions must be taken, it leaves the actual distribution method up to you. Account type aggregation can be difficult to navigate, varying between inherited accounts to self-established accounts. It may be a good idea to consult with a professional if your pre-tax retirement account holdings are diverse.

Many people choose to take RMDs in installments, much like a monthly salary, while others choose to take their distributions as one lump-sum from each account at the end of the year. The timing of your distribution(s) does not matter so long as you withdraw your total RMD amounts by the deadline each year.

What happens if I don’t take an RMD?

If you do not take an RMD, you will be penalized by the IRS. The penalty amount depends on the difference between the amount RMD you were supposed to take and the amount of the distribution you already did take – it is 25% of the shortfall amount. The penalty may be lowered to 10% of the shortfall amount if the error is corrected within two years.

Example: If you were required to take $5,000 from a particular retirement account, but only took distributions totaling $3,000, your shortfall amount is $2,000. The IRS will impose a $500 penalty on this RMD. If you did not take RMDs at all, the IRS will impose the 25% penalty on your total RMD amount across all RMD-applicable accounts.

If you have a TSP account and your total withdrawal amount for the year does not match the amount of your RMD, TSP will issue a supplemental payment in the amount of the difference so that you avoid the tax penalty. Other brokers may do the same thing or try to contact you about your RMDs prior to the distribution deadline if they predict that your distribution amount will come up short. It’s important to update your contact information with any company that administers your financial accounts.

Note that you are able to withdraw more from your accounts than the required minimum distributions, but this amount does not roll over to accommodate for taking less than your RMD amount in future years. Your RMDs are calculated for each account, each year, regardless of whether you’ve taken more than required in distributions in years prior.

How do RMDs affect taxes?

Withdrawals from retirement accounts are considered taxable income unless you have already paid taxes on the account. For example, contributions to Roth accounts are taxed at the time of deposit, and therefore are not taxed when you receive distributions – which is why they are not subject to RMDs. Unless you have prepaid some of your taxes, your RMDs will increase your annual taxable income and, depending on their amount, could push you into a higher tax bracket.

If you are also receiving Social Security income payments, the RMD amount could increase your taxable income enough to affect the percentage of your Social Security payment that is taxable. If you are concerned about tax implications of RMDs, consult a financial professional.

What do you do with RMDs?

RMDs can and should be treated as income, and in that sense, you can essentially use that money to do whatever you want with one general exception: You cannot reinvest money received in the form of a RMD into another tax-advantaged retirement account. Outside of that exception, you could invest the funds in conservative growth instruments, put the funds into a savings account, make a purchase, or initiate a qualified charitable contribution (if you’re worried about the tax implications of additional income, a qualified charitable contribution allows you to donate your RMD amount directly from a taxable IRA to a charity which can allow you to “break even” for the sake of income taxes).

The Navy Mutual blog is meant to provide basic information that generally applies to most situations and should not be construed as legal or tax advice. It is not meant to replace the services of a financial planner, insurance counselor, attorney, or tax adviser. Information contained in this blog post may change on occasion.