Well, you turned 70 a little while ago, and the time has finally come.  After decades of making contributions to your IRA accounts, and watching them grow in value tax-free, your financial advisor is saying that you must start taking distributions from these retirement accounts (whether you need the funds or not).  Why?  Because that’s the rule!

Contributions to an IRA were meant to fund the account owner’s retirement and were never envisioned as a multi-generational investment tool.  To meet this objective, an IRA owner is required to begin taking mandatory distributions from their account after reaching the age of 70-1/2, and each following year (ages 71, 72, 73, etc).  These mandatory distributions are commonly referred to as “required minimum distributions” or “RMDs”.

How is the RMD calculated?

Generally, the RMD is equal to the account balance at the end of the prior calendar year divided by the Applicable Distribution Factor (“ADF”) for the account owner’s age at the end of the distribution year.  In most cases, the ADF comes from the “Uniform Lifetime Table” prepared by IRS.  An excerpt of the current Uniform Lifetime Table follows:

Example: The account owner will turn 75 during 2018.  The account balance on December 31, 2017 was $500,000.  What’s the RMD for 2018?

Based on the Uniform Life Table, the ADF for a 75 year old is 22.9.

RMD for 2018 = (Prior year account balance) / (ADF based on age at year end)

RMD for 2018 = $500,000 / 22.9

RMD for 2018 = $21,835

When is the RMD due?

The general rule is that RMD must be withdrawn by December 31st of the distribution year.  The penalty for failing to take out the RMD by the withdrawal date is 50% of the RMD amount! 

As mentioned above, the IRA rules require that an IRA owner must begin taking mandatory distributions from the IRA account after reaching the age of 70-1/2.  The determination of the initial RMD for the “70-1/2 year” has its own set of rules, and is literally the exception that swallows the general rule. 

This exception allows you to withdraw your initial RMD up to April 1st of the year following your 70-1/2 year.  This is called the “Required Beginning Date.”  The 70-1/2 year exception can be confusing, and the mandatory Required Beginninng Date for your initial RMD changes based on your birth date.

When do RMDs begin?

Based on the 70-1/2 year exception, an IRA account owner has until April 1st of the year after they reached 70-1/2 to take their initial RMD withdrawal.  If the account owner’s birthday is on or before June 30th, RMDs must be started a year before those born after June 30th.

1. If an IRA account owner was born on or before June 30th, they will reach the initial withdrawal age of 70-1/2 during the same calendar year that they turn 70.  Based on the 70-1/2 year exception, these persons have until April 1st of the next year (the year in which they turn 71) to take their initial RMD withdrawal.
2. If an IRA account owner was born after June 30th, they will reach the initial withdrawal age of 70-1/2 during the same calendar year that they turn 71.  Based on the 70-1/2 year exception, these persons have until April 1st of the next year (the year in which they turn 72) to take their initial RMD withdrawal.

Calculation of the first RMD: specific examples.

Example 1:

If the account owner was born on March 3, 1947, their 70th birthday occurred on March 3, 2017, and the owner was 70-1/2 on September 3, 2017.  Consequently, the account owner’s “70-1/2 year” will be 2017, and the Required Beginning Date will be April 1st of the following year, or April 1, 2018.

70th Birthdate: March 3, 2017
70-1/2 year: 2017
IRA Balance on 12/31/2016: $250,000
Age at end of 70-1/2 year: 70
Applicable Distribution Factor: 27.4

RMD for 2017 (70-1/2 year) = $250,000 divided by 27.4
RMD for 2017 (70-1/2 year) = $9,124

The owner must withdraw a total of $9,124 during 2017 and the first 3 months of 2018.

Example 2:

If the account owner was born on August 8, 1947, their 70th birthday will occur on August 8, 2017, and the owner was 70-1/2 on February 8, 2018.  Consequently, the owner’s “70-1/2 year” will be 2018, and the Required Beginning Date will be April 1, 2019.

70th Birthdate: August 8, 2017
70-1/2 year: 2018
IRA Balance on 12/31/2016: $250,000
IRA Balance on 12/31/2017: $260,000
Age at end of 70-1/2 year: 71
Applicable Distribution Factor: 26.5

RMD for 2018 (70-1/2 year) = $260,000 divided by 26.5
RMD for 2018 (70-1/2 year) = $9,811

The owner must withdraw a total of $9,811 during 2018 and the first 3 months of 2019.

Warnings.

This blog post is a simplistic explanation of how to calculate an RMD in certain situations.  The actual Regulations regarding RMDs are quite complicated, with many variations.  You cannot rely solely on this post to calculate your RMD for any year.  You must have an accountant or other tax professional assist you in determining the amount and withdrawal dates of your RMD.  In addition, the custodian of your retirement account(s) will be able to help you determine your RMD amounts, and can act as a confirmation of the amounts determined by your tax professionals.  Each year (before May 31st) the account custodian is supposed to send you (and the IRS) Form 5498, which contains information regarding your prior year account balance and its calculation of your RMD for the year.

Remember that if you don’t take your full RMD in a timely manner, there is a 50% penalty!

Exceptions.

There are many limitations and exceptions to the general rules regarding the calculation of the RMD.

1. This blog post refers to traditional IRA accounts, i.e., those IRAs to which the account owner has made contributions, or has rolled over contributions from another account that the owner made contributions to. 

   The Required Minimum Distribution Rules also apply to other types of retirement accounts, including, but not limited to, 401(k) accounts, 403(b) accounts, Keogh accounts, SEP-IRA accounts, and SIMPLE IRA accounts.

2. If the account owner is married, and the owner’s spouse is more than 10 years younger, then the Applicable Distribution Factor for the account owner is determined from the Joint and Last Survivor Table, not the Uniform Lifetime Table.  This will result in a larger ADF for the owner, which in turn will result in a lower RMD.
3. If your spouse passed away, and you rolled your spouse’s IRA into an IRA account of your own, the initial required withdrawal date can be based on (a) when the original account owner (the deceased spouse) would have reached age 70-1/2, or (b) when the surviving spouse reaches age 70-1/2, whichever is later.
4. This calculation method for RMDs does not apply to inherited IRAs.  For example, if your parent passed away and left you an interest in their IRA account, that is known as an inherited IRA.
5. RMDs are not required for Roth IRA accounts or Roth 401(k) accounts, if you are the original account owner.  However, inherited Roth accounts are subject to RMDs.
6. If you are the owner several IRA accounts, you need to calculate the RMD for each separate account.  Although there are rules which may allow you to consolidate your RMDs and take them from a single account, these rules are complicated and it is not recommended unless you have professional help.

Questions?

If you have any questions, please contact me and I’ll try to help.

CONTACT JOHN

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