IRA Minimum Distributions—Tips, Pitfalls, and an Opportunity

November 6, 2008

If you’re 70½ or older and have a traditional IRA, 401(k) or Keogh plan, normally you must take a required minimum distribution (RMD) from your plan by Dec. 31.

If you’re 70½ or older and have a traditional IRA, 401(k) or Keogh plan, normally you must take a required minimum distribution (RMD) from your plan by Dec. 31. But RMDs aren’t quite as cut-and-dried as they seem. Here are some planning tips.

Take your RMD on time—you’ll get whacked with a 50% excise tax if you don’t. Your custodian won’t send you the RMD automatically. You’ll have to sign a form authorizing it to do so. Let your custodian know by early December. Only in the year that you turn 70½ and take your first RMD do you have until April 1 of the following year to take the distribution. After that, you must receive it by Dec. 31. Many people should take their first RMD by year-end; otherwise, they’ll receive two distributions next year, and that extra income could drive up their taxes.

Consider donating your RMD directly to a charity (law just extended). If you instruct your plan custodian to send all or part of your RMD directly to a charity as a charitable donation, that portion won’t be included in your income. You must be 70½ or older, and you can give up to $100,000. This can cut your federal income tax even if you cannot itemize deductions, and it may even reduce the taxability of your Social Security benefits. This special deal originally expired Dec. 31, 2007, but the October financial bailout bill retroactively extended it through Dec. 2009. You should consult with a tax professional to find out whether it’s best to do this or make a donation as you normally would.

With the RMD, you may not need to tap your investments for living expenses. If you have a sizable plan, you’ll receive a good dollop of extra cash. So you may not need to sell some of your non-IRA investments to raise cash and perhaps pay a capital gains tax.

Make sure your custodian calculated the distribution properly, because errors can leave you holding the bag. Your plan custodian should give you an accurate figure, but double-check it anyway. Just divide the value of the total assets in your plan(s) on Dec. 31, 2007, by your life expectancy factor found in the table in IRS Publication 590. That’s simple enough. But if you inherited a plan from a non-spouse, the RMD rules can be complex, and custodians can frequently miscalculate.

I’ve seen cases where custodians failed to make a distribution, made it twice, made it from a Roth IRA when they shouldn’t have, or miscalculated the number. Make sure that doesn’t happen to you by checking the math yourself.

Jeremy T. Welther is a senior financial advisor with Brinton Eaton Wealth Advisors in Madison, NJ. He holds the Accredited Investment Fiduciary (AIF)® designation from the Center for Fiduciary.Brinton Eaton Wealth Advisors is a leading fee-only financial-planning, tax-advisory, and investment-management firm in Madison, N.J.