How to Make Required Minimum Distributions Work for You | Ed Slott and Company, LLC

How to Make Required Minimum Distributions Work for You

By Jim Glass, JD
IRA Analyst
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As summer ends and fall approaches, so does the season for taking required minimum distributions (RMDs). There is a 50% penalty for failing to take an RMD, so don't miss one. But don't just take an RMD, plan ahead now to make it work for you. Possibilities...

RMD strategies

Use withholding to escape a tax underpayment penalty. Tax withheld from an RMD is treated as being paid to the IRS at an even rate over the entire year even if actually paid on December 31. You can use this to make up an earlier tax underpayment retroactively. Say you had investment income during 2018 on which you failed to pay estimated tax. When you file your return you'll owe the tax and likely a late-payment penalty too. But if you instead pay the tax by withholding it from a year-end RMD, it will be treated as timely paid -- and you'll escape the penalty.

Take your first RMD in the best-year tax-wise. Generally a year's RMD must be taken by December 31 of that year. But your first RMD, for the year in which you reach age 70 ½, can be taken as late as April 1 of the following year. So if you must take your first RMD for 2018 you can choose to take it in either 2018 or 2019, whichever produces the lowest tax bill.

Adjust your portfolio with your RMD. Examine the quality of the investments in your IRA now. When you take your RMD, finance it by culling and liquidating low-performance assets.

Rebalance multiple IRAs with your RMD.  If you have more than one IRA you must calculate the RMD for each, including SIMPLE IRAs and SEP IRAs. But you can take the total of all the RMDs from any one IRA, or divide it among your IRAs as you wish. Say you have set up different IRAs for different beneficiaries or to hold differing investments, earning varying rates of return. You can balance or rebalance them by selecting the IRAs that the total RMD comes from.

A qualified charitable distribution (QCD) can cover your RMD. This is a direct transfer from your IRA to a charity of as much a $100,000. It is not included in your income, so you get the same benefit as from a charitable deduction. In fact it is better than a charitable deduction!   You do not have to file an itemized return to use a QCD, as you must do to deduct a charitable contribution. And, unlike an RMD, a QCD does not increase adjusted gross income (AGI), which can indirectly increase other taxes on your return, such as the taxable portion of Social Security.  Note: If you take an RMD you can't reverse it, so make your QCD first.

If you have a spouse more than 10 years younger than you, take smaller RMDs.  In this case your RMDs can be calculated using the IRS's Joint Life Expectancy table, which provides for smaller RMDs than the generally used Uniform Lifetime table. Note: Your spouse must also be your sole designated beneficiary, named on the beneficiary form of your IRA.

Reinvest your RMD. An RMD cannot be rolled over into another IRA or retirement account. But once it is in your bank account, you can do what you wish with it. Examples: Contribute it to a Roth IRA (if otherwise eligible) or to a younger spouse's IRA , or to a tax-favored Section 529 education savings plan. Make a gift to a child to fund the child's Roth IRA contribution. Buy life insurance to provide a future tax-free benefit to the family.

Also, consider taking strategic distributions before age 70 ½. It's natural to put off taking IRA distributions until they are required. But sometimes taking them earlier can pay off.

One example is when you are in an exceptionally low tax bracket year, and RMDs taken later will be taxed at a higher rate. A low-tax distribution now will reduce higher-tax RMDs later.

Another possibility is to increase Social Security benefits. When benefits are delayed past the normal retirement age of 66 they increase by 8% per year. So by taking IRA distributions to replace your Social Security benefits from age 66 through 69, at 70 you can obtain a benefit that will be 32% larger for the rest of your life.

Take away: A distribution from an IRA should be more than just a payment received. Plan ahead to leverage yours for the maximum possible advantage.

 

 


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