The ABCs of Required Minimum Distributions

Written by: Mark Cussen

Since the advent of qualified retirement plans in 1974 and traditional IRAs in 1982, these accounts have accumulated trillions of dollars that grow on a tax-deferred basis for the benefit of their owners and participants.  However, the IRS has set some limitations on the amount of time that these accounts can hold their funds.

The Required minimum distribution (RMD) rules stipulate that anyone who holds a traditional IRA, 401(k) or 403(b) plan or annuity contract of any kind must start withdrawing a certain amount out of their plan or account each year starting on April 1st of the year after the year in which they turn 70 ½.  For example, an IRA owner whose birthday is in May turns 70 in 2011.  This person will be 70 ½ in the fall of 2012, so she must start taking RMDs on April 1 of 2012.  Required minimum distributions are calculated by the IRS based upon a set of actuarial tables that they publish in Pub. 590 for IRAs and Pub. 575 for qualified plans and annuities list these respective tables in their pages.

These tables are based upon the life expectancies for men, women and couples.  The balance in the account or accounts at the end of each year is recorded and then divided by the appropriate multiplier given in the table.  Investors who have several qualifying accounts from which RMDs must be taken can aggregate them and take a single distribution from one account of their choice.  Failure to take the RMD from an account will result in a 50% excise tax on the amount that should have been taken according to the IRS tables, unless the taxpayer can convince the IRS that the failure was the result of an honest mistake or oversight and is being corrected.

Virtually all IRA and qualified plan custodians as well as annuity carriers track of this issue for their customers and then notify them of when they must begin taking this type of distribution. Most will then calculate and send the actual distribution out as well, either as a check or via direct deposit.  Required minimum distributions are usually taken either monthly, quarterly or annually at the discretion of the account holder.  There is one escape clause for those who wish to avoid taking this type of distribution, however.  Roth IRA owners are not required to begin taking distributions at any time from their accounts, regardless of their age or other factors.  Investors with other types of retirement savings plans or accounts who wish to avoid required minimum distributions can simply roll over or convert their accounts to a Roth IRA and then leave the money in the account for life if they so choose.  Of course, any amount converted must be reported as taxable income, unless it is being rolled over from a Roth 401(k) or 403(b).  For more information on required minimum distributions, consult your financial advisor, retirement plan custodian or annuity carrier.


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The ABCs of Required Minimum Distributions

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