Considerations for Required Minimum Distributions

More than half of Americans have retirement accounts such as 401(k) or traditional IRAs, but many aren’t aware of the Required Minimum Distribution (RMD) rules and tax considerations that come with these accounts until the rules directly impact them. Getting up to speed on the rules can lead to better outcomes in terms of your financial future. 

RMDs are set amounts that must be taken from retirement accounts each year to avoid steep penalties. The first RMD has to be taken by April 1st of the year following the year you turn 73. After that RMDs have to be taken by December 31st of each year. It’s often a good idea not to push the first distribution into the year after turning 73 because then two RMDs will have to be taken in that year (the second by December 31st), potentially pushing you into a higher tax bracket.   

The amount that must be distributed out each year is a percentage of the year-end account balance based on a life expectancy factor. As you age, a higher percentage will be applied to the account balance(s) each year. The following table gives a general sense of how the RMD amount increases with age:

It’s important to note that anyone who inherits an IRA after the death of the original account holder will also be subject to similar RMD rules. 

The amount distributed is subject to federal and state income taxes in the year distributed.  Considerations and planning opportunities to better manage the impact of RMDs include Qualified Charitable Distributions, Roth IRA conversions, strategic pre RMD withdrawals, and delaying full retirement. 

Qualified Charitable Distributions (QCDs) allow you to contribute up to $108,000 in 2025 (the amount is now indexed to inflation, previously the limit was $100,000) from your retirement accounts to qualified charities so that the amount contributed is not subject to tax. This can be especially useful for taxpayers looking to making charitable contributions who do not itemize deductions because their standard deduction exceeds their itemized deductions, which is approximately 90% of taxpayers.

Converting a portion of an IRA or 401(k) balance to a Roth IRA can also sometimes make sense as once converted the funds will grow tax-free. However, taxes on the amount converted must be paid in the year of conversion so this strategy generally works best in years your income is lower, such as early retirement years when you are no longer working.

Depending on your health and expectations, it may also make sense to start taking small withdrawals after age 59 when they can be taken penalty fee but earlier than 73 if by doing so you can use the funds to delay claiming social security benefits until age 70 as your monthly social security benefit will increase by approximately 8% for each year you delay it beyond full retirement age. 

Another strategy in terms of 401(k) RMDs is to remain employed at the Company where you have your 401(k). As long as you are employed with the sponsor of your 401(k) (generally the employer) RMDs are not required. The rule does not provide for a minimum number of hours, so you could work only a few hours a month, if possible. This does not work if you own 5% or more of the Company and it has no impact on IRA RMDs.

Planning for RMDs is an important part of your overall tax and financial strategy and becomes increasingly important as you age. If you have questions on what your RMD tax strategy should look like please contact Pease Bells CPAs.