Sarah Brenner, JD
Director of Retirement Education
When you contribute to a traditional IRA you make a deal with Uncle Sam. You can get a tax deduction and tax deferral on any earnings in your IRA. However, eventually the government is going to want its share and will require funds to come out of these accounts. That is when you must start required minimum distributions (RMDs). You may not need the money and you may not want the tax hit. Here are some strategies that can help reduce your RMD.
If you are planning on giving money to charity anyway, why not do a Qualified Charitable Distribution (QCD) from your IRA? If you are 70 ½, you may transfer up to $100,000 annually from your IRA to a charity tax-free. The QCD will also satisfy your RMD, but without the tax bite.
Are you still working after age 72? If you do not own more than 5% of the company where you work and the company plan offers a “still working exception,” you may be able to delay taking RMDs from your company plan until April 1 following the year you retire. If your plan allows, you can roll your pre-tax IRA funds to your plan and delay RMDs on these funds too. Just be careful. If you have an RMD for the year from your IRA, you must take it before you can roll over the rest of the funds.
A Qualifying Longevity Annuity Contract (QLAC) is a product designed to help with longevity concerns. Any funds you invest in the QLAC are not included in your balance when it comes to calculating your RMDs until you reach age 85. This will reduce your RMDs. You can purchase a QLAC with the lessor of 25% of your retirement funds or $135,000. The 25% limit is applied to each employer plan separately, but in aggregate to IRAs.
Roth IRA Conversions
If reducing RMDs is a top concern for you, you may want to consider a Roth conversion. This is because you are not required to take RMDs from your Roth IRA during your lifetime. While conversion is a taxable event, you can exchange a one-time tax hit for a lifetime of never having to worry about RMDs and their tax consequences. Keep in mind your beneficiaries will need to take RMDs from the inherited Roth IRA. However, these distributions will most likely be tax-free.
The Sweet Spot
Once you reach age 59 1/2, you can access your IRA funds without penalty. From age 59 ½ to age 72 is the sweet spot for IRA planning. The money is yours penalty-free if you choose to take a distribution. However, you are not required to withdraw specific amounts each year during the “sweet spot” as you will be once RMDs are required. Take advantage of these years to take money from your IRA on your own schedule. If you are now retired and your income is lower, this may be the time to take taxable IRA distribution to reduce RMDs later. You might consider using these funds to purchase life insurance or fund an HSA (Health Savings Account), if you are eligible.