Financial Planning, Retirement

Missing The RMD Deadline Can Be Expensive

12/8/17 8:00 AM

iStock_000003223740_Small-1-1.jpgWith the end of the year quickly approaching, many older Americans may benefit from a review of the Internal Revenue Service’s (IRS’s) minimum distribution requirements for popular retirement savings vehicles. Indeed, people can start tapping into their 401(k) and IRA assets penalty-free as early as age 59½, but many individuals will instead allow some if not all of their money to remain in these accounts and continue to grow.

Although that can be a great idea, the government will penalize owners of retirement accounts if they fail to start taking required minimum distributions (RMDs) after having reached age 70½. The penalty for early withdrawals is already quite high at 10 percent, but the cost of waiting too long can be even greater. Specifically, your first minimum withdrawal must be made by April 1st of the year following the year in which you turn 70½. Afterwards, including the year in which you took your first RMD by the delayed April 1st deadline, you must withdraw a RMD by December 31st of each year.

Put simply, Americans that turned 70½ this year have until April 1st of 2018 to receive their first distribution, while older individuals should have already begun receiving RMDs with another due by the end of this month. Apart from a few plan-specific differences, these rules apply to traditional IRAs, IRA-based plans (SEPs, SARSEPs, and SIMPLE IRAs), and employer sponsored plans (profit-sharing plans, 401(k)s, 403(b)s, and 457(b)s). The RMD rules also apply to Roth 401(k)s but not Roth IRAs while the owner is alive. Individuals that fail to receive their full RMD by the deadline could owe the IRS a 50 percent excise tax on the withdrawal shortfall.

The penalty can be waived, according to the IRS, if the account owner establishes that the shortfall in distributions was due to “reasonable error and that reasonable steps are being taken to remedy the shortfall.” In order to qualify for this relief, Form 5329 must be filed along with an attached letter that explains why the deadline was missed. As for individuals that receive their RMDs on time, tax considerations should still be made since distributions have the potential to raise their taxable income enough to bump them into a higher tax bracket.



Sources: U.S. IRS, The Motley Fool, Fidelity Investments

Post author: Charles Couch