As many of our client families approach age 70½, they begin to consider the impact their required minimum distribution will have on their income and tax liability. A common question that crosses their minds: Should I consider delaying my first required distribution?
A required minimum distribution, often referred to as an RMD or minimum required distribution, is the amount that the federal government requires you to withdraw annually from traditional IRAs and employer-sponsored retirement plans after you reach age 70½ (or, in some cases, after you retire). The purpose of the RMD rules is to ensure that people don’t just accumulate retirement accounts, defer taxation, and leave these retirement funds as an inheritance.
With your first, and only your first required minimum distribution, you have the option of delaying until April 1 following the calendar year in which you reach age 70½ (or April 1 following the calendar year in which you retire, in some cases).
Why would you consider delaying?
You might delay taking your first required minimum distribution if you expect to be in a lower income tax bracket in the following year, perhaps because you are no longer working or will have less income from other sources. However, if you wait until the following year to take your first distribution, your second distribution must be made on or by December 31 of that same year.
Receiving your first and second RMDs in the same year may not be in your best interest. Since this “double” distribution will increase your taxable income for the year, it will probably cause you to pay more in federal and state income taxes. It could even push you into a higher federal income tax bracket for the year. In addition, the increased income may cause you to lose the benefit of certain tax exemptions and deductions that might otherwise be available to you. So the decision of whether to delay your first required distribution can be important, and should be based on your personal tax situation.
Example of taking your RMD in the first year:
You are single and reached age 70½ in 2017. You had taxable income of $25,000 in 2017 and expect to have $25,000 in taxable income in 2018. You have money in a traditional IRA and determined that your RMD from the IRA for 2017 was $50,000, and that your RMD for 2018 is $50,000 as well. You took your first RMD in 2017. The $50,000 was included in your income for 2017, which increased your taxable income to $75,000. At a marginal tax rate of 25%, federal income tax was approximately $14,489 for 2017 (assuming no other variables). In 2018, you take your second RMD. The $50,000 will be included in your income for 2018, increasing your taxable income to $75,000 and resulting in federal income tax of approximately $12,439. Total federal income tax for 2017 and 2018 will be $26,928.
Example of delaying your RMD:
Now suppose you did not take your first RMD in 2017 but waited until 2018. In 2017, your taxable income was $25,000. At a marginal tax rate of 15%, your federal income tax was $3,284 for 2017. In 2018, you take both your first RMD ($50,000) and your second RMD ($50,000). These two $50,000 distributions will increase your taxable income in 2018 to $125,000, taxable at a marginal rate of 24%, resulting in federal income tax of approximately $24,289. Total federal income tax for 2017 and 2018 will be $27,573 — $645 more than if you had taken your first RMD in 2017.¹
Talk to an expert
As you approach your first required distribution, we highly recommend you talk to your tax professional and financial planner. Together, we can help you coordinate your assets income and tax liability in order to make an informed decision.
¹These examples include the effects of reduced tax rates due to legislation passed in December 2017.
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