Required Minimum Distribution

Taking a Required Minimum Distribution (RMD) is another type of involuntary withdrawal that must be taken from your 401k plan to satisfy certain IRS requirements.

Why do I have to take a RMD?

Well, the IRS has given you the ability to defer paying taxes on the money you earned while you were working so you could more easily save for retirement. But there comes a time when you must pay the piper!

If the IRS didn’t require you to take money out of your account, then many people would simply leave their accounts intact and pass them on to their heirs. If this happened, the IRS would never see “their” money. So, to prevent this from happening they require people to take mandatory distributions from their account when at the required beginning date (RBD).

When do I have to take my first payment?

The required beginning date to take RMD’s is the year in which you attain age 70 ½ or the date from which you are no longer working for your employer – whichever comes later. So, if you are 75 years old and still working for your employer, you are not required to take a distribution. The year you separate from employment, however, constitutes your required beginning date and consequently the first year of your RMD payments.

Some plans still require you to take RMD’s if you are still working. They are few and far between, but you need to check with your employer. Also, if you are considered a Key Employee, meaning you own 5% or more of the business you work in, you are required to take your RMD’s no matter what – even if you are still working.

There is an exception on the first year, though. Normally you are to satisfy your RMD by December 31st of each year. But that’s not the case for the first RMD.

You can postpone taking your RMD until April 1st of the year following the year you attained age 70 ½, or separated from your employer.

For example, let’s say you are no longer working and you turn 70 ½ in November of 2008. You don’t have to take your first year’s RMD until April 1st, 2009. Alternatively, let’s say you are age 75 and you stopped working this year. You can hold off taking your RMD until April 1st, 2009.

But remember, this is only for the first year. You cannot postpone taking your RMD for subsequent years. In other words, if you postponed your first payment until April 1 of the following year, you are still required to take your second RMD by December 31st of that year. So be careful with this because you may be facing a larger tax liability than you wanted since you had to take two distributions in the same year. A lot of people get in trouble with this part.

How much am I required to take?

Fortunately, the formula to figure out your RMD payment is relatively easy. You simply take your account balance as of December 31st of the prior tax year and divide it by a figure based on your life expectancy. The resulting number is the required minimum distribution you must take that year.

For example, let’s say you need to take an RMD in 2008, you will be 75 by the end of the year, and your account balance in your 401k as of December 31st, 2007, was $150,000. In this case you take your prior year ending balance and divide it by the divisor associated with age 75. Which, in this case, is 22.9. So $150,000 divided by 22.9 equals $6,550.22. This is the amount you have to withdrawal in 2008 for your RMD.

Generally, you can take the RMD in installments monthly, quarterly, etc. Or you can take it in a lump sum. It’s usually up to you.

As of 2003, the IRS provided updated Life Expectancy tables which contain the divisor figures you need to use based on your current age. There are three tables that could possibly be used depending on your circumstances:

  1. Uniform Lifetime Table (to be used during the lifetime of the account owner – table below)
  2. Single Life Expectancy Table (to be used by the beneficiary of the account owner when the owner is deceased – table below)
  3. Joint Life and Last Survivor Expectancy Table (to be used when the account owner is alive, the primary beneficiary is the spouse, and the spouse is more than ten years younger than the owner) Access IRS Publication 590 to see the Joint Life and Last Survivor table for your required minimum distribution.

***Use the Uniform Lifetime Table if you are the owner of the account and your spousal beneficiary is less than ten years younger than you.***

Uniform Lifetime Table

***Use the Single Life Expectancy Table if you are the beneficiary on the account and the account owner is deceased.***

Single Life Expectancy Table

A final note about RMD’s and 401k plans: Remember that you have to take a separate required minimum distribution for each 401k plan you have. So if you have three plans, you have to take three separate withdrawals. This is different from an IRA, where you can take a single RMD for all of your IRA’s from one account, or you can split them out amongst as many accounts as you wish. IRA’s do carry more flexibility.