Personal finance: Keep up with changing landscape on IRA distributions

SECURE 2.0 Act (2022) made changes to the retirement saving and distribution landscape and built on changes made in the original SECURE Act (2019). There is still confusion about when you need to start your required minimum distributions, how they are calculated and how to take advantage of a tax-free distribution.

◗ Required minimum distributions

Retirement accounts are funded with income before income taxes are paid. The trade-off is that you do pay taxes when you withdraw money later in life.

The government has implemented required minimum distributions to make sure the non-taxed money will at some point become income and be subject to tax. RMDs are the minimum amounts you must withdraw from your retirement accounts each year. You may always withdraw more, but you must take out the minimum.

Originally, individuals were required to begin taking distributions no later than April 1 of the year after they turn 70 and a half. The original SECURE Act raised that age to 72, but the change did not apply to individuals who turned 70 and a half before the end of 2019. With SECURE 2.0, the RMD age has moved from 70 and a half to 72, to 73 and will eventually go to 75.

◗ Calculating your annual RMD

In most instances, your IRA custodian will provide you with the figure for the amount you need to take each year. According to the IRS, “Your RMD is generally determined by dividing the adjusted market value of your IRAs as of Dec. 31 of the preceding year by the distribution period that corresponds with your age in the Uniform Lifetime Table (Table III in IRS Publication 590-B, Distributions from Individual Retirement Arrangements (IRAs)).” In plain English: Take the previous year-end value and divide by a number in one of the IRS life expectancy tables. You can withdraw the funds in one lump sum, quarterly, monthly or whatever schedule fits your needs, as long as you take it all before Dec. 31.

If you fail to take your RMD, you will owe a penalty on the portion you fail to take. For tax years 2023 onward, that penalty is reduced from 50% of the missed amount to 25%. For example, if your RMD is $4,000 and you take only $3,000, you would owe a 25% penalty on the $1,000, or $250. There is a provision for you to make a correction, and the penalty may be reduced to 10%.

◗ Tax-free distribution option

There is also a little-used provision in the tax code known as the qualified charitable distribution. A QCD is a tax-free withdrawal from an IRA that goes directly to charity.

What many individuals might not know is that you do not have to have an RMD to make a QCD. The SECURE 2.0 Act did not raise the eligibility age. Anyone with an IRA who is over 70 and a half can make a QCD. For example, if someone will turn 70 and a half tomorrow, they don’t qualify today, but they will tomorrow. The annual limit for QCDs is $100,000 per individual, not per account. Most people will not take advantage of the full distribution, but meeting charitable-giving intentions through a QCD is a smart tax move.

It is possible to combine your RMDs and not take each account RMD separately. There are a set of RMD aggregation rules that I’ll review next month. If you have more than one type of retirement account, it can be confusing to decipher which account RMDs can be combined.

This is one reason we recommend retirement plans and IRAs be consolidated into as few accounts as possible. Having multiple retirement accounts complicates meeting mandatory required minimum distributions and making sure you have met all the requirements. The SECURE 2.0 Act did ease the penalties for failing to comply, but they are still substantial. Work with your financial adviser or tax professional to ensure you don’t run afoul of the law.•

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Hahn is a certified financial planner and owner of WWA Planning and Investments in Columbus. She can be reached at 812-379-1120 or jalene@wwafp.com.