As part of my series on end-of-year financial tasks, there are a few deadlines that many people need to pay attention to as they do annual planning with their investment advisors and other consultants.
I’ll highlight one in particular that is of extreme importance for many senior investors. I’ve discussed this in past columns, but it bears repeating given the onerous penalties you face if you do not comply with the law.
Once you reach age 70 1/2 and forevermore, you face what is referred to as a “required minimum distribution” from your IRA accounts. Like too many things, this one goes by an acronym of RMD. Essentially this is your annual requirement to withdraw a certain minimum dollar amount from all of your tax deferred accounts.
The logic behind this is the government wants to finally collect its take on the money you’ve put away and invested free of taxes. Their required minimum distribution rule assures the tax is paid.
If you don’t comply – whether or not your neglect is completely benign – the penalties are extraordinarily harsh. They can total 50% of the expected annual distribution. Please don’t forget. With penalties like these, a double-check is just a smart policy.
Typically, after your first required minimum distribution has been processed by your account custodian or brokerage firm, the subsequent distributions from your tax-deferred accounts will become automatic. This lessens the burden placed on you to remember each year.
However, your first distribution must be set up manually either with your advisors help or by you if you are a do-it-yourself investor. It’s often this first year where an oversight can occur.
While it should be simpler than this, there are a few nuances with required minimum distributions that are worth discussing further.
The first involves people who may have inherited an IRA from a non-spouse loved one. In this case, the required minimum distribution rule can be much more burdensome. With Inherited IRAs, the custodians or brokerage firms often do not set up an automatic process in subsequent years as they do for non-inherited IRA account holders. Therefore, Inherited IRAs require some extra care.
In my experience, the prospect of forgetting to take an annual distribution occurs with situations of Inherited IRAs. To minimize the risk, my advice is to speak to an advisor the moment you inherit an IRA.
In addition, in the year in which you turn 70 1/2, there are special rules regarding the required timing of the first annual distribution. To discuss the benefits of this special first-year rule, it may require a personalized conversation with your investment advisor and your tax consultant to help craft the most tax efficient strategy.
As is often the case in life, the busiest times of the year, such as the holidays, often inconveniently correspond with some of the most important times of the year to review your financial situation. There’s simply no way around it, no matter how much you and your advisers would love to have the ability to turn back time!
