A penny saved is a penny earned. If you save all your life for retirement, it stands to reason that eventually you’ll use that money, but did you know there are rules around when and how much money you need to take out of your retirement accounts? At some point before the first April 1st after you turn 72, you have to at least put those funds in your own personal savings, thanks to laws mandating distributions.

Known as Required Minimum Distributions, or RMDs, these withdrawals will make tax time a little costlier once you hit your 70s. By understanding the requirements, you can prepare in advance.

What Are RMDs (Required Minimum Distributions)?

Certain retirement accounts – most commonly 401(k)s, 403(b)s and IRAs – let you set money aside tax free for retirement. But these accounts aren’t designed to let you skip out on paying taxes forever. At some point, Uncle Sam is going to come calling, at which point you’ll have to start taking out some of those funds and claiming them at tax time.

Required Minimum Distributions apply to traditional IRAs, 401(k)s, and 403(b)s. Roth accounts don’t have RMD rules because you’ve already paid taxes on your contributions.

The time to think about your retirement accounts is before the end of each year. According to new rules laid out in the 2019 SECURE Act, you’ll need to withdraw the minimum amount before the first April 1st after you turn 72 to avoid a 50% penalty at tax time. This penalty is in addition to the taxes you’ll have to pay on the amount you should have taken out.

The problem, for many retirement account holders, is that it can be tough to know just how many accounts you have hanging around, waiting to come back to haunt you. You may have inherited an IRA you forgot about at some point, or you might simply have a 401(k) or 403(b) with a long-ago employer that slipped your mind. Whatever the case, you’ll need to track down all those accounts before you reach the IRA, 401(k), and 403(b) withdrawal age to avoid the penalty.

Once you’ve gathered information on all your accounts, set up automatic withdrawals to ensure you never have to pay that penalty. It may be easier to roll your accounts into one, though you should note that you only get one tax-free indirect IRA rollover per year and plan accordingly. Most investment brokerages can work with you to make this process as easy as possible, such as scheduling automatic IRA distributions by bank transfer or a mailed check. You can set your account up to send the payments annually, monthly, or following a schedule you set up.

How Do You Calculate RMDs?

Calculating the minimum amount you need to take from your accounts is fairly simple. The easiest way is to use the tables provided with each year’s tax forms. Last year’s worksheets are based on the 70½-year RMD IRA, 401k, and 403(b) withdrawal ages, but the basic concept is the same.

To calculate how much to withdraw before the end of this year, you’ll need to first know your balance as of December 31st of the previous year. You’ll then consult a table, provided on the worksheet, to get your exact distribution period, which is based on your age. You’ll divide the distribution period number from your balance to get your required minimum distribution for the year.

So if you’re 72 and claiming a distribution on your taxes for last year, you’ll divide your account balance by 25.6. If your balance was $10,000, you would have been required to withdraw at least $390.63 from your taxable retirement fund and claim that amount on your taxes.

Although there are 401(k), IRA, and 403(b) minimum distribution amounts, there are no maximums. You can empty out the entire account once you reach the age of 59½ without penalty. But those withdrawals will be taxed as ordinary income, so plan carefully before taking withdrawals.

When Do You Take Your RMD?

If you were under the age of 70½ on January 1, 2020, you have a little extra time. The Setting Every Community Up for Retirement Enhancement Act of 2019, also known as the SECURE Act, changed the required age of RMD to 72. You won’t have to start taking distributions until April 1st of the year after you reach the age of 72, letting you file taxes a couple more times before you have to start taking money out of your retirement accounts.

Although you have to follow the RMD age requirements, that doesn’t mean you can’t reinvest the funds. You can’t roll them into a tax-deferred retirement account to subvert taxes, but you can put them into another savings account, invest them, or use the money to help pay off interest-bearing expenses like your mortgage or car payment.

Bottom Line

Prior to turning 72, you should make sure you’ve accounted for every 401(k), 403(b), and IRA in your name. A mandatory withdrawal or distribution will apply whether you know about the account or not. To make the most of the funds you’re required to take out, we recommend meeting with a Certified Financial Planner®, who can come up with a plan that best matches your lifestyle.

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