70-Year Old IRA Owners: Avoid This Expensive Mistake

Photo credit: Simon Wijers. Unsplash.

In 2017 the first baby-boomers turned 70. Happy birthday! However, if you had your 70th birthday between January 1 and June 30 of this year, the IRS says you must take your first IRA “required minimum distribution” (aka RMD) this year as well.

Well, OK. Technically, you really have until next year. More about that below.

Here’s how the IRS phrases it, “All IRA owners must begin taking distributions from their IRA and other retirement accounts no later than April 1st of the year after the year they turn 70 ½.” So, if you turned 70 in the first half of this year, you have until April 1 of 2018 to take your first IRA RMD.

However, just because you may delay your first IRA RMD a little longer, doesn’t mean you should. Delaying your IRA RMD until 2018 means you will have to take two distributions in 2018 one for 2017 that was delayed until April 1, as well as one for 2018 that will be due on December 31, 2018.

Should you take your IRA RMD this year or wait until April? No one likes to pay their taxes any sooner than necessary. However, if you turned 70 ½ this year, it may make sense to pay your first IRA RMD in 2017, rather than waiting until the IRS deadline of April 1, 2018. By waiting until 2018, you end up taking out more money in that taxable year. Doing so could bump you into a higher tax bracket, cause more of your social security income to be taxable, raise your Medicare premiums or create other unintended consequences.

Unless you expect your tax rate to be lower in 2018, delaying your IRA RMD until April 1 may not offer any benefit, other than to prolong the inevitable.

How do you calculate the IRA RMD? Your IRA RMD is based on your age (70) and your IRA balance on December 31 of the previous tax year (2016 in this example). The divisor is 27.4 or about 3.5% of your 12/31/16 IRA balance. Every year you will recalculate your RMD based on the previous tax year’s IRA balance and your age.

But wait, there’s more…

The IRS considers ALL your IRAs to be one big IRA account. So, if you have multiple IRA accounts, each one will have an RMD. Since the IRS considers all your IRA accounts to be one big account you can take your IRA RMD from any one of them, all of them or a combination – whatever works for you.

Still more…

The IRS considers all your IRAs to be one big IRA account. However, other retirement accounts (like 401k accounts) will have their own separate RMD. So, if you have one IRA and one 401k at an old employer, you will need to take two separate RMDs. You can’t take your entire RMD out of just one account, like you can if both accounts were IRAs.

Inherited IRAs are also calculated separately and will have their own IRA RMD schedule.

An expensive mistake. The IRA RMD calculation is fairly simple, but knowing which IRAs and retirement accounts go into the calculation, which ones don’t, and which ones have their own unique schedule can be tricky.  If you get it wrong or fail to take your IRA RMD on time, you could be hit with a penalty equal to 50% of your RMD amount.

Generally, if you have an IRA, the IRA custodian will calculate your IRA RMD for you. They can even set things up so that you automatically take your IRA RMD each year. However, they won’t necessarily know if you have other IRA accounts that need to be considered in your calculation.

Your financial planner or tax advisor should be able to calculate your IRA RMD as well. They can also help you navigate the maze of exceptions and considerations that could apply to your particular case.

If you are doing the calculation yourself, use the IRS RMD tables. You can find an IRS worksheet for calculating your IRA RMD here: IRS RMD table.

IRAs and IRA RMDs can be complicated. Like most tax rules there are exceptions and other considerations to keep in mind. This short blog post doesn’t come close to what could come up when determining your IRA RMD. If you have any questions, talk to your IRA custodian, financial advisor or tax advisor.