I have long railed against tax code and regulatory complexity when it comes to retirement savings plans. I wish Washington would focus on making the savings-for-retirement and withdrawals-during-retirement as simple as possible. A poster child for needless complexity is the required minimum distribution (RMD) rules for IRAs, 401(k)s and similar retirement savings plans funded with pretax dollars.
The law essentially requires everyone to withdraw some money from their tax-deferred retirement savings accounts starting at age 70 ½ and the first withdrawal must be made by April 1. Subsequent RMDs must be made by year-end. This year the last date to act is Dec. 29. You will pay your ordinary income tax rate on withdrawals. (There is no RMD on the Roth-type of retirement savings plans.)
Don’t procrastinate. If you don’t take your RMD you will be hit with a 50 percent penalty on the amount not taken. In other words, if you should have withdrawn $5,000 and you don’t the penalty could be $2,500. You can request that the penalty be waived for a variety of reasons, but why risk it?
Most financial institutions will do the calculation for you. The IRS has a work sheet for determining your RMD. The formula is based on your account balance from the end of the previous year and your life expectancy based on the IRS tables. Let’s say the value of your IRA was $110,000. You are 76. The IRS table puts your distribution period at 22 years. Your RMD is $5,000. You need to figure out your RMD for each IRA if you have several, but you can make the total withdrawal from just one IRA if you want.
The RMD itself isn’t complicated. It’s the numerous twists to the RMD that are head-scratching. For example, if you are still working past age 70 ½ and you are participating in your employer’s 401(k) plan you don’t need to start your RMD on that plan until you retire. But you must begin your RMD with your IRAs even if you are still working. You must also take your RMD if working and your employer’s plan is an IRA, such as the SIMPLE-IRA. Make sense?
By the way, if you don’t need the money you can give the RMD to charity. The distributions is a direct transfer of funds from your IRA custodian to qualified charitable organizations up to $100,000 a year. The RMD is excluded from your adjusted gross income. The charitable option is only for IRAs, not for pretax employer retirement plans.
I think you can see why I wish Washington would simplify the rules.
Chris Farrell is senior economics contributor, “Marketplace,” commentator, Minnesota Public Radio.