Due to COVID-19, those that were required to take their minimum distributions from various retirement plans in 2020, could take the year off if desired. Even though some of the benefits of these acts are no longer in effect, some of the rules within them were enacted as permanent changes in 2021. In this blog article, we will look at how these changes affect RMD's in 2021 and beyond.
Keep in mind that Required Minimum Distributions (RMD's) can be incredibly costly if processed incorrectly.
This is where that 50% penalty comes in. That, on top of the taxes one pays on these distributions can add up to some serious money.
Therefore, the information in this article should not serve as a substitute for personal financial advice. Always contact your Certified Financial Planner® practitioner before making any changes to your personal finances.
Recently, I was helping a woman figure out what her potential RMD's should be this year and we uncovered four old retirement plans that were left behind at old employers. If we hadn't gone through this exercise and discovered these accounts, I imagine she would have had some nice penalties to pay. In her case, not only would she have regular taxes to pay on the required distribution but also a 50% penalty on the amount that was supposed to be taken. Ouch.
How are RMD's Calculated?
A required minimum distribution, or RMD, is a minimum amount of money one must withdraw from their IRA (or other qualified plan) each calendar year after reaching a specific age.1
The amount of a required minimum distribution is calculated by dividing the following two values from one another:1
- The total account balance of an IRA in the previous calendar year, divided by
- A value, determined by the IRS’s “Uniform Lifetime Table.”
The final amount is the minimum amount that must be withdrawn. However, it should be noted that calculating minimum distribution requirements should be handled by a Certified Financial Planner® practitioner, as a failure to withdraw an RMD can result in a 50 percent tax penalty.1
For example, Felicity was born in 1945. She has an IRA worth $1,000,000. Her required minimum distribution this year would be $45,454.55. If she takes this RMD by year end, she is only subject to ordinary income taxes on that amount. If she misses the deadline, she would be subject to an additional tax of $22,727.28
When one takes money from one of these retirement plans, the money coming out is generally taxed at ordinary income tax rates. Here is where some tax planning can make sense. Even though you are required to take the minimum, you can always take more. It may make sense in lower taxable income years, to take more than the minimum. We can help determine the optimal amount each year.
We do these calculations for our clients regularly, so it is second nature for us. However, different types of plans, under different circumstances can require different requirements. Always best to have your Certified Financial Planner® practitioner help with the calculation.
Retirement Plans Affected by RMD's
The following retirement plans will be affected by the new RMD requirements:1
- Traditional IRAs
- SEP IRAs
- SIMPLE IRAs
- 401(k) plans
- 403(b) plans
- 457(b) plans
- Profit-sharing plans
- Other defined contribution plans
As a reminder, Roth IRAs if you are the owner, do not follow RMD rules. (For 401(k) or 403(b) Roth’s other rules apply)
Changes to RMD's in 2021
RMDs have changed in a few ways in 2021. First, following the SECURE Act, the required age of RMDs increased from 70 and a half to 72 in 2020.2 If you will be turning 72 in 2021, and this is your first RMD, then you will have until April 1, 2022, to make your minimum withdrawal instead of the standard date of December 31 of each year. Additionally, the CARES act waiver no longer applies to 2021, meaning RMDs must be taken by the end of the year to avoid the 50 percent tax penalty.
RMD's and Inherited IRAs
When an IRA is inherited, the inheritor becomes a beneficiary and must still take RMD's.2 However, how these RMD's are processed will depend on the date of the original account owner’s passing and the type of beneficiary receiving the account.2
The type of beneficiary depends on multiple factors, such as relationship to the original account owner. Though, in general, spouses and other eligible beneficiaries may be allowed to take RMD's over their lifetime, while other beneficiaries will need to follow the 10-year rule, withdrawing the entire account within 10 years.2
Of course, this is a general approach and alternatives do exist. Therefore, the beneficiary type and RMD's should be determined by Certified Financial Planner® practitioner before any actions are taken.
The way RMD's are processed may have changed this year. But by keeping this information in mind and consulting your Certified Financial Planner® practitioner, you can work to make sure your RMD's are withdrawn and calculated properly, without worrying about the potential tax penalties.
Lastly, bear in mind, if you have multiple retirement plans, each account will need to be calculated to arrive at the correct amount. The IRS does let you take your RMD from one account or all however, this calculation must include all accounts.
Any questions, we are here to help.
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All the best.
Rick Fingerman, CFP®, CDFA™, CCFS®
Financial Planning Solutions, LLC (FPS) is a Registered Investment Advisor. Financial Planning Solutions, LLC (FPS) provides this blog for informational and educational purposes only. Nothing in this blog should be considered investment, tax, or legal advice. FPS only renders personalized advice to each client. Information herein includes opinions and source information that is believed to be reliable. However, such information may not be independently verified by FPS. Please see important disclosures link at the bottom of this page.