Smart Strategies to Reduce Required Minimum Distribution (RMD) Taxes
For everyone that has a pre-tax retirement account that you put money into, remember that you have never paid taxes on that money. Eventually, Uncle Sam says, “enough is enough”, and wants to receive a piece of the pie. The way the IRS does this is that they force you to begin Required Minimum Distributions or RMDs starting between age 72 & 75, depending on when you were born. RMD’s are mandatory withdrawals from pre-tax retirement accounts like Traditional IRAs and pre-tax 401(k)s. Every dollar that comes out of a pre-tax retirement account is taxable as ordinary income, so these RMD’s can certainly impact your retirement income and tax liability later in your retirement.
There are, however, some smart strategies that could help reduce required minimum distributions (RMDs) and potentially lower your tax bill.
Today on Coffee and Cash, we’ll discuss some strategies to help lower your RMD taxes.
Convert to a Roth IRA: Consider converting some or all of your Traditional IRA assets to a Roth IRA. Roth IRAs are not subject to RMDs during the account owner's lifetime, and qualified withdrawals are tax-free. While the conversion itself is taxable, spreading it out over several years can help manage your tax liability.
Roth 401(k) Contributions: If your employer offers a Roth 401(k), consider making contributions to it instead of or in addition to a Traditional 401(k). Roth 401(k) accounts are not subject to RMDs during your lifetime, and qualified withdrawals are tax-free. Note that even if you make too much money to fund regular Roth IRA’s that are subject to income limits, the Roth 401k is not subject to any income limits.
Strategic Withdrawals: Plan any withdrawals strategically. You’re required to take RMDs once you reach a certain age, but you can withdraw more than the required amount earlier in retirement if it makes sense for your tax situation. This can help reduce the size of future RMDs and potentially lower your overall tax liability in retirement.
Use Qualified Charitable Distributions (QCDs): If you're philanthropically inclined and older than 70 1/2, consider making charitable donations directly from your Traditional IRA using QCDs. These distributions count toward your RMD but are not taxable. This can reduce your taxable income and fulfill your RMD requirement all while supporting your chosen charities.
Diversify Your Retirement Account Types: Ensure that you have savings spread out between pre-tax, after-tax and Roth accounts. This allows for more flexibility to plan retirement withdrawals.
Implement Asset Location: Once you have determined the optimal allocation for your portfolio, which is essentially the mix of stocks and bonds that makes sense for you, you can take it a step further, and place certain types of lower growth investments in pre-tax accounts and higher growth investments in after-tax accounts like Roth IRAs or taxable investment accounts. Lower future pre-tax accounts = lower RMD’s = lower taxes, all else equal.
Monitor Tax Brackets: Be mindful of your tax brackets in retirement. By spreading out withdrawals and managing your income carefully, you can potentially stay in lower tax brackets which can help reduce the tax impact on your RMDs.
Plan early: The earlier you start thinking about these types of planning issues, the more options you generally have available to you. Start your RMD tax planning well before you reach the age at which RMDs are required. Early planning can provide you with more options and flexibility in managing your retirement account withdrawals.
Remember that tax laws can change, so it's essential to consult with a financial advisor or tax professional to create a personalized withdrawal and RMD strategy based on your specific financial situation and the most up-to-date tax regulations. Additionally, the age at which you must start taking RMDs and the rules surrounding retirement accounts can vary, so it's crucial to stay informed about the current tax laws and retirement planning guidelines.
If you would like to further discuss RMDs and how you can make the most of your money, book a complimentary meeting on our website at simmonscapitalgroup.com or call 518.406.5624.
Thank you for watching. We’ll see you next week for another episode.