Most financial planners tell their clients to diversify when setting aside money for retirement. Having retirement savings in multiple accounts and multiple products makes sound financial sense. By funding retirement savings in employer-sponsored 401(k) plans, Individual Retirement Accounts (IRAs), and stocks, bonds, and mutual funds, a person can help ensure a stable financial future when they finally quit working.
All is not rosy, however, in the retirement planning scenario. Conflicting regulations and something called the Required Minimum Distribution, or RMD, can cause serious problems with managing retirement funds.
What are Required Minimum Distributions?
Required Minimum Distributions (RMDs) are the minimum amounts one must withdraw from qualifying retirement accounts when the account holder reaches a certain age. For retirees who reach the age of 70 ½ years, regulations require RMDs for the following types of retirement accounts:
- Simplified Employee Pension (SEP) IRAs
- Traditional IRAs
- SIMPLE IRAs
- 401(k) Retirement Plans
Where many people run afoul of regulations is failing to address RMDs from multiple accounts. Steep financial penalties result from mismanaging or mistiming these required distributions. Most of the time, retirees with multiple accounts will have consolidated assets out of employer-sponsored plans and into IRA accounts. This simplifies, but does not eliminate, the complexities centered on RMDs. Some retirees leave their employer-sponsored 401(k) plans alone rather than rolling assets into an IRA, and here is where many of the penalties arise.
Managing RMDs Across Multiple Retirement Accounts
As with any complex financial plan, the expertise of a professional financial adviser or retirement planner can help clients avoid nasty surprises when it comes to retirement savings. RMDs are sometimes those nasty surprises that cause significant financial penalties and tax liabilities. Here are some of the major points that financial advisers go over with their clients:
- Required Minimum Distributions (RMDs) must be calculated separately for each account, but the RMD amount from multiple accounts can then be added together and distributed from one IRA of the owner’s choosing. The point here is that the RMD must be taken, but it doesn’t matter from which account it comes, provided the proper amount is withdrawn.
- Employer-sponsored plans like 401(k)s require minimum distributions after age 70 ½. Some employees will have multiple plans, depending on work circumstances. Each plan must have its RMD calculated separately and then distributed separately from each of the plans the retiree owns. If RMD amounts are incorrect or not taken at all through oversight, the financial penalty is a tax at 50% of the amount not withdrawn. For multiple 403(b) plans, the RMDs must be calculated separately but can be withdrawn from the single account of the retiree’s choosing, similarly to how distributions from IRAs are calculated and distributed. Again, it’s the total amount of the RMD that is important, not where it comes from, when talking about employer-sponsored 403(b) plans.
- There are employer-sponsored Roth 401(k) plans. Unlike a Roth IRA, required minimum distributions are must be taken when the retiree reaches the age of 70 ½ when the account is a Roth 401(k). Roth IRAs, on the other hand, don’t require account holders to withdraw funds until after the death of the account’s owner; in other words, there are no RMDs for Roth IRAs. Distributions from Roth IRAs and Roth 401(k) plans are tax-free.
RMD Considerations for Employees over the Age of 70 ½
For those older employees that continue to work long after traditional retirement age, there are additional aspects to consider when it comes to required minimum distributions. Employees who still contribute to employer-sponsored 401(k) or 403(b) plans and are older than 70 ½ years of age may wish to defer or delay taking any RMDs. Older employees may want to wait to take RMDs until they actually retire rather than at the age set by IRS regulations, and some plans allow this. Each employer plan is different, so it is suggested that you speak with your plan’s administrator to see if delay or deferment is available if you find yourself in this situation.
Here’s another interesting wrinkle to be aware of when talking about RMDs and their implications: if you reach the age of 70 ½ in any given year, you can delay or defer your first required minimum distribution until April 1 of the following year. There are positives and negatives to delaying that first RMD:
On one hand, you may see benefits from allowing your retirement savings a few more months of tax-deferred growth, helping to improve the overall value of those savings.
On the other hand, if you wait until April 1 of the year following turning age 70 ½ to take that first RMD, you will have to take TWO RMDs in that year, which can potentially push you into a higher tax bracket. This double RMD can also interfere with Medicare premiums or cause Social Security benefits to be taxed as income as well, especially if it is at or near thresholds for taxation.
How a Retirement Adviser Can Help
As a retiree, you may find yourself juggling several retirement accounts. Each has its own unique regulations and requirements, and managing these aspects on your own can be extremely challenging. You don’t have to go it alone, however. Retirement planning professionals are specially trained and certified to help retirees get the most out of their retirement plan savings. These professionals can help you develop plans for taking required minimum distributions (RMDs) when needed while guiding you to keep savings in place for continued tax-deferred growth where desired. The rules of retirement planning are complex, but with the help of a certified retirement planner, you can help protect your hard-earned savings, ensuring that you will live a comfortable, financially-stable retirement well into the future.