RMDs scare me
Required Minimum Distributions (RMDs) is the minimum amount that the IRS requires you to withdraw from your pre-tax retirement funds annually when you hit age 72. This is not an option. When you withdraw from your pre-tax accounts, it counts as income and you will have to pay taxes. The point of investing your money pre-tax is that you defer paying taxes later on. Well, you will start to be forced to start withdrawing at the age of 72 or 73.
If you have been following me, you know that most of my retirement funds are in pre-tax accounts. That means I will have to pay taxes on what I withdraw which includes any growth that it experienced over the years.
According to the IRS
Generally, a RMD is calculated for each account by dividing the prior December 31 balance of that IRA or retirement plan account by a life expectancy factor that the IRS publishes in Tables in Publication 590-B, Distributions from Individual Retirement Arrangements (IRAs). Choose the life expectancy table to use based on your situation.
Joint and last survivor table II – use this table if the sole beneficiary of the account is your spouse and your spouse is more than 10 years younger than you.
Uniform lifetime table III – use this if your spouse is not your sole beneficiary or your spouse is not more than 10 years younger
Single life expectancy table I – use this if you are a beneficiary of an account (an inherited IRA)
See the worksheets to calculate required minimum distributions and the FAQ below for different rules that may apply to 403(b) plans.
Let just say that you have $1 or $2 million dollars in your pre-tax retirement accounts. You don’t want to spend all your money and be left with nothing. You’re likely going to withdraw the amount that you need and the rest will stay in your accounts which will continue to be invested and hopefully continue to grow.
When you hit the RMD age, you are going to be forced to take out the RMD amount annually out of your pre-tax accounts and that will be considered income so you will have to pay taxes.
As of writing this article, the federal tax brackets for a person who is married filing jointly are as such.
| Tax rate | on taxable income from . . . | up to . . . |
| 10% | $0 | $22,000 |
| 12% | $22,001 | $89,450 |
| 22% | $89,451 | $190,750 |
| 24% | $190,751 | $364,200 |
| 32% | $364,201 | $462,500 |
| 35% | $462,501 | $693,750 |
| 37% | $693,751 | And up |
To pay as little taxes as possible, you want to have your income as low as possible. Let’s just say you are at retirement age and you are taking out just enough for you to live on. Your income is less than $89,450 which includes of distributions from your retirement accounts. Depending on your situation, your social security may be taxed as well. So you’re paying 12% taxes and if you have a $2 million dollar pre-tax retirement portfolio, it’s not making a big dent. Your portfolio will hopefully continue to grow. The amount you withdraw will offset by the growth potential of you investments.
Now that you’re 72 or 73, RMDs kick in. You are required to withdraw a minimum amount. If you have a large pre-tax portfolio and have not been withdrawing a lot, that means you are likely going to be withdrawing more than normal. If you have to withdraw more than $89,450 you will be in the 22% tax bracket.
Having someone tell me that I have to withdraw my pre-tax funds and that there is a minimum requirement really scares me. In retirement, you’re not working and living off your retirement savings. All of a sudden, you owe the government a huge amount because of taxes which could happen for many years until you no longer have RMDs to deal with. In order to pay more taxes, you have to withdraw even more money.
What can you do to help lessen the burden?
I have been doing Roth conversions year after year, moving investments from my pre-tax portfolio into a Roth IRA account (which is a post-tax account). When you do the conversion, it will be considered as taxable income. I am in the 24% tax bracket so this income will be taxed at 24%. Why pay this amount of taxes now at this rate? I’m doing it because I am still working and I can. Having to pay additional taxes in retirement without having an income from like a job scares me. I don’t want to be in a situation where I am taking out more money just to pay the taxes because of being in a higher tax bracket.
Donate your positions to charity. Eligible charitable organizations can accept stocks as a donation. If you donate a stock from your pre-tax account directly to the organization, you could avoid incurring income tax on the distribution. I have not explored this just yet but definitely an idea to consider especially if you are wanting to make a donation to a charity.
Stop contributing to your 401K, IRA, or other pre-tax account. Start contributing to a Roth 401K, Roth IRA, or other post-tax retirement account.
Bottom line, RMDs scare me. Not knowing what my future withdraw strategy is yet leaves me in a concerning state. There are things you can do to help lessen the burden but don’t wait too long because the closer you are to retirement, the less flexibility and options you may have. You may have no choice to have high RMDs and be forced into a high tax bracket in retirement. If you are interested in following my journey and their journey, follow them on Instagram and email subscribe to get alerts of latest posts or follow me on Facebook, Instagram, and Pinterest.