Everyone has heard about required minimum distributions (RMDs) for retirement plans and IRAs, but few of us really know how they work. RMDs are the government's way of limiting tax deferred savings and recouping some taxes.
RMDs generally were established to ensure that individuals begin withdrawing funds from their retirement plans, like 401(k)s, and IRAs, at a specific age. This policy helps the government collect taxes on these savings, which were initially tax-deferred. With people living longer, the age for RMDs was recently pushed back, giving your savings more time to grow before you dip in. The big idea behind RMDs is to make sure you're using your retirement money for yourself, not just passing it along on to the next generation.
Here are the basics you need to know about RMDs:
The RMD rules are found under Section 401(a)(9) of the Internal Revenue Code and are very complex. Final regulations for RMDs under the SECURE 1.0 Act just came out on July 19, 2024, effective September 17, 2024, providing further changes for qualified plans and individuals with retirement plans and IRAs, with good faith reliance effective January 1, 2025. Proposed regulations under SECURE 2.0 also were published that same date.
RMDs are the minimum amounts you must withdraw from your retirement plan commencing on your “required beginning date”. Retirement plan participants can delay taking their RMDs until April 1 of the calendar year following the later of the calendar year they attain the required applicable age, or the year in which they retire. Owners of 5% or more of the business sponsoring the plan and holders of traditional IRAs, SEP IRAs, and SIMPLE IRAs must begin taking RMDs once they reach the required age, even if they are not retired.
The individual is taxed at their income tax rate on the amount of the withdrawn RMD. However, to the extent the RMD is a return of basis or is a qualified distribution from a Roth IRA, it should be tax free.
Generally, a RMD is calculated for each account by dividing the prior December 31 balance of that retirement plan account by a life expectancy factor that the IRS publishes for qualified plans in Treasury Regulations under 26 C.F.R. § 1.401(a)(9)-9 and for IRAs in Tables in Publication 590-B, Distributions from Individual Retirement Arrangements (IRAs). Defined benefit plan RMDs or defined contribution with a joint and survivor option generally are calculated on an annuity basis. The life expectancy table to use varies based on the individual’s situation.
The five most important rules affecting RMDs:
1. Changes in the age requirement.
One of the most important changes is the “aging” of the applicable age requirement. Prior to the SECURE 1.0 Act, the applicable age to begin taking RMDs was 70 ½. The applicable age for determining the required beginning date was extended by Congress, in part, recognizing the longer life expectancy of the workforce. With the SECURE 1.0 Act, the applicable age was increased to age 72 for individuals who attain age 70 ½ after December 31, 2019 (i.e., an individual’s 70th birthday was prior to July 1, 2019). Under SECURE 2.0, the applicable age again was increased to age 73 for individuals who attain age 72 after December 2022 (and attain age 73 before January 1, 2033). If you turn 74 after December 31, 2032, the applicable age to begin taking RMDs will be age 75.
2. Excluding Roth Accounts
Another significant change is the treatment of Roth 401(k)s. Previously, Roth 401(k)s were subject to the same RMD rules as traditional 401(k)s despite their tax-free withdrawals in retirement. This meant that account holders had to start withdrawing a certain amount from their Roth 401(k) annually, starting at their required beginning date. One strategy was to roll over funds from a Roth 401(k) to a Roth IRA, which did not require early distribution.
Under SECURE 2.0, for RMDs for calendar years after 2023, as with Roth IRAs, Roth 401(k) accounts won't be subject to the RMD rules before the account holder dies. (Post-death minimum distribution rules, which also apply to Roth IRAs, still apply.)
3. Reducing Penalties for Failing to Take an RMD
Retirement plan participants and IRA owners are responsible for taking the correct amount of RMDs on time, every year from their accounts, and they may face high penalties for failure to take RMDs. Under SECURE 2.0, the penalty for failing to take an RMD was reduced from 50% to 25% of the RMD amount not taken. The penalty may be further reduced to 10% if the account owner corrects the issue by taking the full withdrawal of the RMD amount previously not taken, a corrective distribution, and submits a corrected tax return in a timely manner. There is also an automatic waiver of penalties in the event of the account holder’s death in certain circumstances.
Currently, the penalty also may be waived if the participant or account owner establishes that the shortfall in distributions was due to reasonable error and that reasonable steps are being taken to remedy the shortfall. To qualify for this relief, you must file Form 5329 and attach a letter of explanation.
4. RMDs for Sole Beneficiary Surviving Spouses
Previously, if the participant or account owner died before RMDs were required and their surviving spouse was the sole beneficiary (and didn't change that status), RMDs from the inherited account weren't required until the year in which the deceased participant or account holder would have reached the required age. Under SECURE 2.0, the surviving spouse may: (1) elect to be treated as if the surviving spouse were the employee; (2) wait until the date the spouse would have attained the applicable age to begin taking required minimum distributions; and (3) have the beneficiaries of the surviving spouse be treated as beneficiaries if the surviving spouse dies before distributions begin. SECURE 2.0 tweaks that rule by also allowing the surviving spouse to elect an RMD calculated using the uniform lifetime table (for calendar years after 2023), generally providing for lower RMDs than using their own life expectancy. The surviving spouse will have to select this treatment, and the selection will be irrevocable.
If the participant or account owner dies after commencement of the RMDs, the surviving spouse must continue taking the RMDs based on the life expectancy of either the deceased person or the surviving spouse.
5. RMDs for Eligible Designated Beneficiaries
Before the SECURE 1.0 Act, beneficiaries of a retirement plan or an IRA could stretch out their required minimum distributions (RMDs) over their life expectancy. This strategy, known as a stretch IRA, allowed beneficiaries to defer taxes and potentially grow their remaining balance tax deferred. It was common to try to stretch out IRA tax benefits to future generations by naming young children, grandchildren, or even great grandchildren as beneficiaries.
Under the SECURE 1.0 Act, significant changes were made for beneficiaries for all deaths that occurred in 2020 or later, with special rules for eligible designated beneficiaries. Eligible designated beneficiaries include surviving spouses, minor children under age 21, beneficiaries who are disabled or chronically ill, or an individual not more than 10 years younger than the participant.
If the original participant dies before withdrawing their RMDs, eligible designated beneficiaries may take distributions in line with their life expectancy starting the calendar year after the participant’s death. As mentioned above, if the spouse is the sole eligible designated beneficiary, the spouse can defer commencement until the year after the participant would have attained the applicable age.
If the original participant dies on or after commencing RMDs, eligible designated beneficiaries must take the RMDs “at least as rapidly” as the participant (the life expectancy of the participant or beneficiary, whichever is shorter). If a minor child is an eligible designated beneficiary, the child becomes subject to the 10-year rule once the child reaches age 21 (unless otherwise qualifies as an eligible designated beneficiary).
Individual beneficiaries who are not eligible designated beneficiaries, and certain see-through trusts, must follow a 10-year timeline for drawing down plan assets. This means individual beneficiaries who are not eligible designated beneficiaries and inherit before a deceased plan participant has already triggered their RMDs are required to take annual distributions under the 10-year timeline. If they inherit after a deceased plan participant has triggered their RMDs, they must satisfy the “at least as rapidly” rule and the 10-year timeline.
There are special rules for non-living beneficiaries, like a participant’s estate, charities and certain trusts, which are treated as having no designated beneficiary and subject to a 5-year timeline.
| RMD Distribution Periods for Employee / Account Owner Deaths After 2019 | ||
|---|---|---|
| Death Before Required Beginning Date | Death On or After Required Beginning Date | |
| Surviving Spouse* | Spouse’s life expectancy | Spouse’s life expectancy |
| Eligible Designated Beneficiary* | Beneficiary’s life expectancy | Beneficiary’s life expectancy |
| Designated Beneficiary & Certain Trusts | 10 years | 10 years |
| Entity Beneficiary | 5 years | Employee’s life expectancy |
*Beneficiary younger than employee / account owner.
6. RMD Planning Opportunities.
IRA account owners may donate $105,000 (2024) per year of their RMD to a Section 501(c)(3) charitable organization in a qualified charitable distribution commencing at age 70 ½. This amount counts toward the account owner’s RMD when they reach the required age. SECURE 2.0 also provides a special one-time opportunity for individuals age 70 ½ and older to elect to fund a charitable remainder trust or a charitable gift annuity in an amount up to $53,000 (2024). This amount counts toward the qualified charitable distribution annual cap.
Disabled individuals are eligible designated beneficiaries and therefore may inherit retirement plan benefits or accounts and IRAs allowing RMDs to be determined over their life expectancy. SECURE 2.0 clarifies these RMD rules may still apply to a special needs trust for a disabled beneficiary even if the trust designates a charitable organization as a remainder beneficiary.
Why learn about RMDs?
It’s your money and, according to the government, it’s time to take it out of the tax deferred accounts and pay your taxes. With some planning, you can know what to expect and how to manage your retirement spending. And if you need help navigating the RMD maze, contact an employee benefits lawyer or your accountant.