If you do not make a required minimum distribution (RMD) from your own or an inherited IRA by the specified deadline, the IRS could hit you with a big penalty - 50%! For example, if you were required to withdraw a minimum of $4,000 and you did not, you would be obliged to pay $2,000. Plus, beginning January 1, 2020, the rules concerning RMDs were updated.
Like many investors, you're likely aiming to build a comfortable nest egg to ensure a comfortable retirement. Among retirement financial planners, this is called the "accumulation phase." In this phase, your goal is to invest wisely by choosing stocks with long-term potential for your retirement portfolio, such as Goldman Sachs (GS), a current top ranked dividend stock.
But there is a second phase of retirement planning that gets less attention, even though it's the more enjoyable part. It's the "distribution phase," which simply means spending the assets you've worked so hard to accumulate.
Making plans for the distribution stage involves deciding where you'll live in retirement, whether you'll travel, your proposed leisure activities, and more decisions that will affect your spending during your golden years.
In addition to these considerations, it is essential to take into account the RMD that applies to most retirement accounts. Basically, this is an IRS requirement that you withdraw a certain amount from your qualified retirement accounts once you reach age 72.
Why does the IRS require these distributions? It's straightforward - they need to ensure they get their tax. In the event that this standard didn't exist, individuals could live off other pay and never pay tax on their retirement investment returns. So, that cash could be left to family or companions as an inheritance without the IRS getting any taxes from you.
The Most Important Things to Know About RMDs
What types of retirement accounts have RMDs? Qualified retirement accounts such as IRA accounts, 401(k)s, 457 plans and other tax-deferred retirement savings plans like a TSP, 403(b), TSA, SEP, or SIMPLE IRA plan require withdrawals in retirement.
When do I need to begin withdrawals? For most accounts, you should take your first distribution by April 1 of the year following the calendar year in which you turn 72. If you retire after 72, you must withdraw your first RMD from your 401(k), profit-sharing, 403(b), or other defined contribution plan by April 1 of the year following the calendar year that you retire.
Every year after your start date, you are required to take your RMD by December 31. Remember, for Roth IRAs you do not have to take an RMD because you paid taxes before contributing. However, other types of Roth accounts do require RMDs, but you may be able to avoid them (for instance, by rolling your Roth 401(k) into your Roth IRA).
What will happen if I neglect to take my RMD? If you don't take an RMD, or don't take a large enough distribution, you are liable for a 50% tax on the amount that was not withdrawn in time.
How much money do I have to withdraw? To calculate a specific RMD, you must divide your prior year's December 31st retirement account balance by a "distribution period" factor based on your age.
Here's an example to give you an idea of the math: Ann is 71 and will take her first RMD in the year following the year she turns 72. Her IRA balance toward the end of the preceding year was $100,000. Her "distribution period" factor is 27.4. Dividing $100,000 by 27.4 equals $3,649.63. This is the amount Ann is required to withdraw for her first RMD.
Learning about the "distribution phase" is just one aspect of preparing for your nest egg years.
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