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Got a question about investing, how it fits into your overall financial plan and what strategies can help you make the most out of your money? You can write to me at beth.pinsker@marketwatch.com. Please put Fix My Portfolio in the subject line.
Dear Fix My Portfolio,
I’m 72 and will soon have to take required minimum distributions, which are going to be around $68,000 in total the first year. I have two IRAs and one 401(k), and I have to figure out how to take the money — when, how much and from which accounts. I understand the IRAs can and must be accounted for, RMD-wise, separately from the 401(k). I am sure there will be a bit of a hassle with the two IRAs in confirming the right amount was taken. How do I manage it all?
B.F.
Dear B.F.,
Good for you for thinking ahead and trying to learn as much as you can about required minimum distributions before you turn 73 and start the process in earnest. The government gives you a tax break while you’re working to put money into qualified retirement accounts and allows it to grow tax-deferred, but eventually, Uncle Sam wants his cut. Required minimum distributions satisfy this a bit at a time, according to a formula — and you have to follow the rules exactly, or you risk paying penalties.
When you have one account, it can be fairly easy. You can set up automatic withdrawals with your financial institution, and they can take care of the tax withholding and distribution for you. You’ll get tax forms from them to file with your 1040 tax return that will confirm the balance of the account at the end of the prior year, how much was taken out and how much tax was paid.
This obviously gets more complicated when you have multiple accounts, and even more so if those accounts are not all at the same financial institution.
One option is to combine your accounts as much as you can. For instance, you might want to roll over your 401(k) into one of your existing IRA accounts, unless there is a reason you are keeping those separate — if you are still working, say, or the 401(k) has better investing options.
You might also be able to combine your existing IRA accounts, but that will depend on how they are structured. You won’t be able to combine accounts with a spouse, for instance, because these are individual accounts. You also may not be able to combine inherited IRA accounts, depending on how they are registered.
If you are left with multiple accounts, “the most natural way to do it is to take the RMD separately from each account. It’s easier to keep track that you’ve met the amount needed,” says Rob Williams, managing director for financial planning at Charles Schwab.
Most online calculators and do-it-yourself opportunities to apply the RMD formula will work best with this kind of calculation because it’s straightforward. You plug in your account balance at the end of the prior year and your age, and a tool will calculate how much you need to withdraw to satisfy the RMD requirement. Then you can use your own tax rate to figure out how much to pay the IRS.
To do anything more complicated, you will probably want to call the custodian. “It’s complicated for the average person. That’s why it’s good to talk to a specialist. They will have dedicated people who do this every day and are good at the reasoning,” Williams says.
How to consolidate RMDs
As you noted, you will not be able to consolidate your RMDs between your IRAs and 401(k), because the Internal Revenue Service won’t recognize that. But if you wish, you can calculate the amount that needs to be taken from among several IRAs and choose which account or accounts to take it from. “It’s a preference, not a requirement, to take it all from one or the other,” says Williams.
He suggests that you may want to start more simply, by taking the required amount from each account, and then get more complex. Once you’re confident about the calculations, you can proceed as you wish. You may have reasons for consolidating those withdrawals — for tax purposes, the different investments involved or even because it seems simpler to you to do it that way. One account might be smaller than the other, for instance, and it may feel logical to empty it out first. Or you may be doing Roth conversions at the same time, and organizing your RMDs around those.
“It can get more nuanced, and that’s where talking with a planner can be helpful,” says Williams. The important thing is that you’re thinking ahead and being strategic — which, he says, is often not the case. “We suggest that people have a retirement-income plan that includes where you will take money from and when.”
Whatever you choose to do, make sure you double-check your math. If you don’t take the full amount due, you will face a 25% penalty under new Secure 2.0 rules on RMD payments. That could be reduced to 10% if you correct your mistake quickly and it is less than the former 50% penalty, but it’s still pretty steep.
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