In order to be competent in finance, you must first get your bachelor’s degree in acronyms. At least that is what I have been told by the “experts.” Maybe I will get to that level one day, but as of right now, the more I learn, the more I realize that I do not know.
Back to the acronym thing….see if you have heard of this one: RMD
RMD stands for required minimum distribution. An RMD is what I wish I had in place for my wife this past Christmas season. No, seriously, an RMD is the minimum amount of money that a person is required to withdraw from their retirement account (traditional IRAs, Simple IRAs, 401(k)s, or other qualified plan).
The IRS mandates that once a person turns 70.5 years old, they must begin withdrawing money out of their retirement accounts. The reason is very simple: Uncle Sam wants his tax money. Technically speaking, the investor has until the end of the first quarter FOLLOWING the calendar year they turn 70.5 to take their first distribution. However, most people would not want to play the hand that way because then they would have to take 2 distributions that year which could result in a larger tax bill. Is there anything worse than a big tax bill? Maybe a trip to the proctologist?
Now that we have the concept out of the way, one must be wondering “why did he say it was misunderstood?” Let’s get to that. Some “glass half empty” people see the RMD as some dirty tactic used by the IRS to generate more tax money, but I see the glass as half full. I view the RMD as a side effect of the IRS allowing an investor to save money on a TAX DEFERRED basis for nearly ¾ of a century. For those that know me, you know that I am not an IRS apologist by any stretch of the imagination, but in this case, they are justified in getting their money.
Me: “Bart, you never paid tax on this money in the first place!”
Bart: Something that rhymes with “pull spit.”
It is true. When you put money into a qualified plan, it is contributed on a pre-tax basis, meaning it comes out of your paycheck before taxes are withheld (employer sponsored plan), or you contribute the money to an IRA and then take a tax deduction on your tax return. So, the IRS is essentially letting Bart defer the taxes due until he is shopping more for hearing aids than iPads. The longer the taxes are deferred, the better.
My name is Matt, and I am an addict. I love my financial calculator…mostly because it represents something I can use to run any scenario an investor will throw at me. However, in the case of calculating an RMD, my calculator is useless. There is an IRS uniform table, which is used to calculate the RMD. What an investor must first do is to add up the TOTAL amount of money held in ALL of their retirement accounts at the end of the year (12/31 value). Include those 2 IRAs, that old 401(k), the small IRA CD at the bank, etc……you have to count them all. Once you have that number, then consult the table and look for your age. It is very simple.
Al is 71 years old
Al has $423,000 in his retirement accounts on 12/31/2010
Al’s beneficiary is his beloved wife Marge
Al’s number off of the table is 26.5
$423,000 divided by 26.5 is $15,962.26
Al must take $15,962.26 out of his account in 2011
BUT WHAT IF…..
If you are one of those people with random pools of money in 14 places, they you probably have a nice collection of retirement accounts. This is NOT a good idea. The reason for this is that the custodian of each account will calculate what they THINK is your RMD for the year, but they do not know about those other 4-5 accounts you hold elsewhere. That means that in order to comply, you will have to gather up all of your notices and add all of the numbers together to calculate your TRUE RMD. The good news is that you can take your entire RMD from just one account if you so choose, or you can spread it around. Judging by the fact that you have 4-5 IRAs in the first place, we can all assume which one you will choose.
IS THERE ANY WAY…
No. There is not. “But what if I give the money…” Nope. Not-a. Fuhgettaboutit. You cannot avoid taking the money. In 2009, the IRS decided to suspend the RMD requirement for one year, but all it took for that to happen was several financial companies going out of business, a mortgage meltdown, a stock market drop of nearly 40%…you get the idea. Let’s assume that this will not happen again.
DON’T PEE ON SUPERMAN’S CAPE!
If an investor does not take a full RMD when required, then they have just urinated on Superman’s cape. The IRS imposes a 50% penalty in this case. Furthermore, even though the custodians of the accounts usually calculate the amount for the investor, it is ultimately up to the person individually to make sure the correct amount is taken. Nobody else will hold your hand while Superman pummels you. Just take the RMD and be happy.
If you are fortunate enough to be the beneficiary of a retirement account, assuming the account holder read this blog entry and actually NAMED a beneficiary, then you are required to start taking RMDs once you inherit the money. The amount is based on your life expectancy, so again it is not a lot of money. Here is the table.
I think I have made my point here, and that point is that the RMD is not anti-American and an investor should take the RMD in full and on time. If you have any questions, I am here as always….send me an e-mail or call me.