Retirement Distributions—Taking the Tax Sting out of RMDs

At Henssler Financial, we believe calculating and timing required minimum distributions (RMD) is an area where professional help is warranted, whether from a financial adviser or a tax consultant. Not only can it be costly if done incorrectly—a penalty of 50% of the amount not withdrawn—but there are many nuances and strategies that depend on your situation.

To start, the SECURE Act of 2019 raised the minimum RMD age to 72 from 70½ beginning in 2020. Then as part of the 2020 CARES Act, which helped individuals manage financial challenges brought on by the pandemic, seniors did not have to take RMDs from their traditional IRAs and other tax-deferred accounts that year. Currently congress is debating “Secure 2.0,” which could gradually raise the RMD age to 75; however, we recommend that you continue to plan as if the RMD age will remain at 72. Additionally, the IRS recognizes that life expectancies have increased and issued new tables to calculate RMDs. These new tables will take effect for RMDs beginning in 2022 and will typically result in lower annual RMD amounts and potentially lower income tax obligations.

Many investors subscribe to the philosophy of “kick the tax can down the road” and delay any financial moves that would incur or increase income tax, which often includes distributions from retirement accounts. Unfortunately, delaying any retirement plan withdrawals until you absolutely must withdraw can create undesirable tax consequences. RMDs are taxed as ordinary income, which could affect your marginal tax bracket, how much of your Social Security benefit is taxed, and may result in an income related monthly adjustment for Medicare costs.

By working with a financial adviser or CPA, you can explore and implement strategies that can lower the IRA balance, minimize the impact of RMDs, and hopefully eliminate any tax surprises. Some investors may choose to begin withdrawals between 65 and 69 while remaining in the same tax bracket. Seniors may consider relocating to states with a retirement income exclusion that would reduce or eliminate their state income taxes; however, sales and property taxes should be considered before moving. In Georgia, Social Security income and up to $65,000 of retirement income is exempt from state taxes for those age 65 or older ($130,000 per couple, assuming each spouse qualifies individually).

Charitable-inclined investors aged 70½ can make their donations pre-tax by transferring funds directly from their IRA accounts to charities as Qualified Charitable Distributions (QCDs). QCDs are not taxable income to the investor and count toward the taxpayer’s RMD after age 72. For those with large IRA balances, QCDs can total up to $100,000 annually.

If you’re fortunate and do not need IRA withdrawals for living expenses before turning 72, you may consider converting a portion of your IRA to a Roth IRA. While taxes would be due on the assets converted to a Roth, any future growth in the Roth IRA account should be tax-free income and not subject to required distributions. A strategy like this may also factor into your estate planning wishes.

Not all strategies work for every situation, so it is important to work closely with your advisers for solutions that work for your circumstances.

If you have questions on how to minimize the impact required minimum distributions may have on your financial situation, the experts at Henssler Financial will be glad to help: