You probably haven’t marked your half birthday since preschool, but Uncle Sam is gleefully rubbing his hands together as the leading edge of baby boomers starts turning 70½ in July. Why? The IRS doesn’t want you to delay paying taxes on your retirement savings forever. At 70½, you must get serious about your strategy for taking required minimum distributions from your tax-deferred retirement savings and paying taxes on the proceeds.
1. Learn the rules for your first RMD. You are required to start taking RMDs from your traditional IRAs (but not Roth IRAs) and other retirement accounts after you reach age 70½. If you were born between January 1 and June 30, 1946, you must decide whether to take your first RMD this year or take advantage of a one-time-only option to delay your first withdrawal until April 1 of next year. From then on, you must take withdrawals by December 31 every year, including taking your second withdrawal at age 71 by the end of 2017. If you were born between July 1 and December 31, 1946, you can wait until next year to take your first RMD (or postpone it into 2018).
Note that taking two RMDs in one year could boost some of your income into a higher tax bracket. That could affect the amount of your Social Security benefits that is taxable or trigger higher Medicare premiums.
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2. Calculate your RMDs. Your minimum payout is based on the balance in each account at the end of the previous year and a life-expectancy factor determined by the IRS. You must calculate the amount separately for each traditional IRA, as well as for any Simplified Employee Pension accounts (SEP-IRAs) and Simple IRAs. For 2016, use the account balance on December 31, 2015, then divide it by the life-expectancy number for age 70 in IRS Publication 590-B (or use Kiplinger's RMD calculator). Most people use Table III, with a divisor of 27.4 for age 70, but you’ll use a different table if your sole beneficiary is a spouse who is more than 10 years younger than you.
Add up the required minimums for each of your IRAs. You can take all of the money from one or more of your traditional IRAs, SEPs or Simple IRAs. If you don’t take the required withdrawal by the deadline, you face a penalty of 50% of the amount you should have withdrawn.
IRA sponsors usually withhold 10% of your payout as taxes to be sent to the IRS. But if you want to block withholding or have more than 10% withheld, tell your IRA sponsor when you request the distribution.
3. Don’t forget your 401(k)s. If you’re still working at age 70½, you don’t have to take RMDs from your current employer’s 401(k) plan until you leave the job (unless you own 5% or more of the company). Also, you must calculate your RMD for each 401(k) you have and take the required amount separately from each account; you can’t aggregate withdrawals as you can with IRAs.
You don’t have to take RMDs from Roth IRAs, but you do need to take them from Roth 401(k)s. The withdrawals are not taxable, but you still must spread them over your life expectancy. You can avoid these RMDs by rolling Roth 401(k) money into a Roth IRA before the year you turn 70½.
4. Reduce taxes by giving your RMD to charity. Once you’re subject to RMDs at 70½, you can also give as much as $100,000 from your IRA to a charity tax-free each year. The amount counts as your RMD without boosting your adjusted gross income. That can be a boon if you don’t itemize and can’t deduct charitable contributions. Plus, keeping the money out of your adjusted gross income could help you avoid the Medicare high-income surcharge or make less of your Social Security benefits taxable. Ask the charity and your IRA administrator for the procedures.
5. Reduce your RMDs with a QLAC. You can invest up to 25% of your IRA or 401(k) balance (up to $125,000) in a special annuity called a qualified longevity annuity contract (QLAC). Money in a QLAC is ignored for RMD purposes. A QLAC is a deferred-income annuity that begins payouts many years after your investment. For example, a 70-year-old man who invests $125,000 in a New York Life QLAC will get about $23,558 per year starting at age 80, or $46,111 per year if payouts start at age 85 (payouts are smaller if your heirs receive a death benefit). That will reduce his RMD at age 71 by more than $4,700.
6. Stop contributing to your traditional IRA. The law bars traditional IRA contributions starting in the year you reach 70½. If your 70th birthday falls before July 1, you can’t contribute for 2016; if it’s in the latter half of the year, this is your last chance. But you may be able to contribute to a Roth IRA, which has no age cutoff. To qualify, you or your spouse must have earned income from a job, and your income in 2016 must be less than $132,000 if you’re single or $194,000 if married filing taxes jointly.
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