Required minimum distributions (RMDs) are the minimum amounts you must withdraw annually from certain retirement accounts, like traditional IRAs and 401(k)s. They may not be fun, but they are necessary.
For many retirees, RMDs begin at age 73. However, if you were born in 1960 or later, you have until age 75 to start RMD withdrawals. RMD guidelines are stringent and have changed over the years, making it no surprise that many of us make an RMD-related mistake from time to time.
Here are some of the most common -- so you can hopefully avoid them.
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1. Missing the all-important deadline
Your first RMD deadline is April 1 of the year after you turn 73. So, if you're turning 73 this year, your first deadline is April 1, 2026. Subsequent RMDs must be taken care of by Dec. 31, each year.
2. Withdrawing the wrong amount
Withdrawing the wrong amount can end up being an expensive mistake. For example, if your annual RMD is $50,000 and you accidentally withdraw $40,000 instead, your withdrawal is $10,000 short. The IRS will impose a 25% excise tax on the amount not withdrawn (in this case, that would be $2,500). However, if you correct the mistake by withdrawing the required amount within two years, the IRS penalty drops to 10% ($1,000).
Note that there may be exceptions. Let's say your reason for failing to take an RMD was because you were seriously ill, a spouse died, or your house burned down, or your accountant (who normally takes care of the issue) fled the country. That may be considered a "reasonable error." If that's the case, file an IRS Form 5329 and request a waiver.
3. Overlooking tax implications
While an RMD sets the minimum amount of money you must withdraw, you can take more if needed. However, don't forget that RMDs count as taxable income. Before you decide for sure how much you're going to withdraw, make sure you know if it will knock you into a higher tax bracket. Use that information to deterine if you want to scale back on how much you're withdrawing, or move ahead.
4. Failing to consolidate accounts
If you have multiple retirement accounts, RMDs need to be calculated for each account separately. To calculate RMDs for each account, you'll need to:
- Determine the balance for each account as of Dec. 31 of the previous year.
- Divide that balance by the appropriate IRS life expectancy divisor (as published online).
- For IRAs, you can calculate each RMD separately but withdraw the total RMD from one or a combination of the IRAs.
- For 401(k)s and other defined contribution plans, you must take RMDs separately from each account.
5. Having insufficient funds
While you may have more than enough money in your accounts to cover your RMD, that doesn't mean each of those accounts can easily be liquidated or traded for in-kind. For example, non-publicly traded assets can take months to liquidate and could cause you to miss your RMD deadline.
If your account holds assets that can't be quickly turned to cash, make sure you have enough cash or other suitable assets to cover the RMD -- just in case.
While it would be a stretch to compare an RMD to driving a car, the two do have one thing in common: The better you understand the rules, the more likely you are to do things right. No matter how complicated RMDs may seem at first, the more practice you get, the easier it will become.
