The Hidden Consequences of Delaying Your First RMD
When it comes to required minimum distributions (RMDs), timing is everything. While the IRS allows you to postpone your first RMD until April 1st of the year after you turn 73, this decision can have significant implications for your second year’s RMD.
Understanding RMDs
RMDs are mandatory withdrawals from your IRAs and other tax-deferred retirement accounts, starting at age 73. The penalty for missing an RMD is a steep 25% of the amount not withdrawn, although this can be reduced to 10% if corrected within two years.
The One-Time Reprieve
The IRS offers a one-time break, allowing you to delay your first RMD until April 1st of the following year. This might make sense if you’re new to tax and financial planning or experience a significant increase in taxable income in the year you turn 73. However, most financial planners advise against taking this option.
The Double Whammy
Postponing your first RMD means you’ll take two distributions in the next year, which can push you into a higher tax bracket, increase taxes on your Social Security benefits, and even trigger a surcharge on your Medicare coverage. Additionally, the formula for calculating RMDs ensures that delaying your first RMD will likely make your second RMD larger than it would have been otherwise.
The Calculations
Your RMD amount is determined by dividing your retirement account balance by the IRS life expectancy table. At age 73, the factor is 26.5 years, and at age 74, it’s 25.5 years. Leaving your first RMD in your account beyond December 31st means the amount you would have withdrawn in your first year will be included in the balance for your second RMD, along with any gains it generated.
A Cautionary Example
Let’s say you have a $1 million IRA balance on December 31st, 2023. Your first RMD at age 73 would be $37,736. If you postpone it, your IRA balance on December 31st, 2024, would be $1.1 million, with a postponed RMD of $37,736 and a second RMD of $43,137. This would increase your total RMDs over two years by roughly 3.4%.
When Delaying Makes Sense
One instance where postponing your first RMD might make sense is if you don’t need the money for living expenses and want to make a direct qualified charitable distribution. This allows you to direct the RMD money to a charity, resulting in no tax on the RMD money.
The Importance of Planning
RMDs require careful consideration and planning in your overall retirement strategy. It’s essential to have an RMD strategy in place at least one year before your first RMD. A knowledgeable financial advisor can help you navigate these complex calculations and develop a personalized plan to minimize taxes in retirement.
Getting Expert Guidance
Finding the right financial advisor doesn’t have to be difficult. With SmartAsset’s free tool, you can get matched with up to three vetted financial advisors who serve your area. Take the first step towards securing your financial future today.
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