What is a Required Minimum Distribution?

What is a Required Minimum Distribution? 

 

A required minimum distribution (RMD) is the amount of money that must be taken out of a traditional individual retirement account (IRA) or 401(k) once account holders reach a certain age. RMDs were put into place to prevent people from using retirement accounts to avoid paying taxes. You must take your first RMD by April 1 of the year following the year in which you turn 72 (70 1/2 before 2020). In the following years, you must take your RMD prior to December 31 of each year.  

 

How is your Required Minimum Distribution Calculated?

Your RMD is generally determined by dividing the adjusted market value of your accounts as of December 31 of the prior year by the corresponding withdrawal factor based on your life expectancy in the uniform lifetime table. If your spouse is your sole beneficiary and is more than 10 years younger than you, you will use the joint-life and survive expectancy table. 

 

If you have more than one IRA, you must calculate the RMD for each IRA separately each year. However, you may aggregate your RMD amounts for all your IRAs and withdraw the total from one IRA or a portion from each of your IRAs. You do not have to take a separate RMD from each IRAYour RMD is the minimum amount that you must take from your account, but you can always withdraw more than your RMD. Note, you are not allowed to apply excess withdraws toward future years RMDs. You may withdraw your annual RMD in any number of distributions throughout the year as long as you withdraw the total amount by December 31 or April 1 if it is your first RMD. 

 

For example, Joe Smith turned 72 on January 1, 2020, and is married to Jill Smith who is 68. Joe’s IRA was valued at $1,000,000 as of December 31, 2019. Based on the current uniform life tables, Joe’s withdrawal factory is 25.6. Therefore, his required minimum distribution for 2020 is $39,062.50.  

 

RMD$1,000,000/25.6=$39,062.50. 

 

If the distributions you take in any year are less than the RMD for that year, you are subject to a penalty equal to 50% of the undistributed RMD.  

 

Going back to our previous example; if Joe Smith forgot to take his 2020 RMD of $39,062.50, he would be subject to the 50% penalty on his undistributed RMD. This is a $19,531.25 penalty and Joe is still required to make his original $39,062.50 RMD for 2020 on top of the penalty for a total distribution of $58,593.75. 

 

RMD Penalty: $39,062.50*50%=$19,531.25 

 

Total Distribution: $19,531.25+39,062.50=$58,593.75 

 

 

Important Update 

The Coronavirus Aid, Relief, and Economic Security (CARES) Act contains provisions suspending RMDs for IRAs, 401(k)s, and other employer-sponsored retirement plans for 2020. The waiver extends to inherited IRAs, including stretch IRAs, as we interpret the law. You should consult with your tax advisor prior to any final decisions. 

 

What if you already took your 2020 RMD?

If you already took any portion of your RMD for 2020 and would like to put it back, you have until August 31, 2020, to do so. The repayment will be treated as a tax-free rollover, but it isn’t subject to the “one roll-over every 12-month” rule. Tax-free rollovers are now available for 2020 RMDtaken by beneficiaries of inherited IRAs as well. Defined benefits plans (such as pensions) must still take their RMDs for the year. Also, you can’t reverse the tax withholding you paid to the IRS on your RMD but depending on other factors in your tax situation the IRS could refund the withdrawal when your 2020 return is filed.  

 

Going back to my previous example with Joe Smith, as a result of the CARES Act, Joe Smith does not have to take his RMD in 2020. If Joe had taken $10,000 of his 2020 RMD, he has until August 31, 2020, to repay his distributions without penalty 

 

Benefits of Repaying 2020 RMDs 

If you do not need the money from your RMD to cover your current expenses, putting the money back can have multiple benefits. In addition to allowing the money to grow tax-deferred for a longer period of time, you’ll also have less taxable income for 2020. That could mean you have less taxable Social Security benefits, lower Medicare premiums, or a “Recovery Rebate” Credit on your 2020 tax return. It can also provide the opportunity to convert traditional IRA funds into Roth IRA funds. 

 

One Final Note  

Consider this information as an interpretation of the law—not personalized tax advice. For that, you should talk with a CPA or tax professional who is familiar with your particular situation. 

 

 

 

Sources: 

 

IRS Publication 590-B 

 

Table III in IRS Publication 590-B, Distributions Individual Retirement Arrangements (IRAs) 

 

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