By Alex Pabellon, CPA, CGMA
You did it! You were patient, you were disciplined, you did all the right things, and you’re finally ready to retire. Over the past few years you’ve met with your financial planners and they’ve all said the same thing: you’re right on track. It seems almost surreal. You had pictured this moment for years, and now you can barely believe it’s here. All those years of saving, planning, and restraint have paid off.
If you are fortunate enough to have this problem, your only mistake might be assuming that there’s nothing else you need to consider. For those with sufficient savings – or those who have earnings from investments, real estate, or other sources and find that they don’t need to tap into their retirement assets – remembering to take the required distributions from their retirement funds can be a challenge, and there are negative tax consequences for not doing so.
Tax-advantaged plans such as 401(k)s, 403(b)s, and traditional (i.e., not Roth) IRAs are set up to give taxpayers the benefit of deferring tax on investment earnings until retirement age. By delaying withdrawals further, taxpayers would be essentially making the tax benefit permanent. Taxpayers may begin withdrawing retirement earnings when they reach 59 ½, but when they reach age 70 ½ they are required to begin withdrawing from these funds. If they don’t, they can face significant penalties – up to 50% of the amount not withdrawn on time.
When to Make Withdrawals and How Much?
The annual required minimum distribution (RMD) formula for every calendar year, beginning the year in which the taxpayer turns 70 ½, is as follows:
Account Balances as of Dec. 31 ÷ Life Expectancy Factor
The taxpayer’s Life Expectancy Factor depends on their filing status, and is available on the IRS website.
RMDs are taxed as ordinary income, so it’s important to consider whether they, in conjunction with all other sources of income, will push taxable income to a higher tax bracket. Be sure to plan accordingly.
Taxpayers may delay the initial RMD until April 1 following the end of the calendar year in which the taxpayer turns 70 ½ as long as a second distribution is taken by Dec. 31 of that same year. Again, it is critical to factor in the effect that two distributions in the same calendar year will have on taxable income so as to not significantly underpay.
Help Is Easy to Find
Need more information about this or any other tax topic? The PICPA’ community of CPAs is committed to serving the public interest by helping others navigate complex issues surrounding personal finance, budgeting, tax, and more. Please visit us at www.picpa.org/consumers.
Alex Pabellon, CPA, CGMA, is manager of accounting policy and SEC reporting at Customers Bancorp in Wyomissing, Pa.
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