Working Past 70 and a Half
November 16, 2011If you have ever sat through a retirement planning workshop then you probably know that 401(k) plans and traditional IRAs are subject to required minimum distributions (RMDs) starting in the year you turn 70 ½, but what you might not realize is that RMDs from 401(k) plans are NOT required as long as you continue to work. Recently I received an email from a webcast participant who wanted to know when he would be required to take a distribution from his 401(k) plan, and how the distribution would be calculated.
If you plan to work beyond age 70 ½, then here are some key facts to know when it comes to required minimum distributions:
1. RMDs from traditional IRAs are still required
Even though you continue to work, that does not prevent you from having to take required distributions from your traditional IRAs. Your first distribution is calculated in the year you turn 70 ½ based on the account value of your traditional IRAs as of the end of the prior year divided by a life expectancy factor.
Since this is your first RMD, the IRS allows you until April 1st of the following year to take it, but your second RMD will be required by December 31st of the same year, so you may end up taking two distributions in the same year if you wait. Most IRA custodians will calculate your RMD for you, but even if they don’t, you are still responsible for taking it. Failure to take your RMD on time could result in a penalty of as much as 50% of the required distribution amount (yikes!).
2. Roll over your traditional IRA to your 401(k) to postpone RMDs
Since RMDs are taxed as ordinary income, you may want to continue to defer distributions (and taxes) until you stop working. You may be able to accomplish this by rolling your traditional IRA into your 401(k) (if your company allows). Plan on rolling it over prior to the year you turn 70 ½, otherwise an RMD may be taken prior to rollover.
3. RMDs are calculated on 401(k) balances in the year you officially retire
Once you officially separate employment, your RMD for that year will be calculated the same way as your traditional IRA (i.e. dividing last year’s account balance by a life expectancy factor). Since this is your first RMD from a 401(k) account, you will have until April 1st of the following year to take it, but remember what I said earlier about doubling up on distributions in the second year.
Let’s look at an example:
Say you’re turning 75 the year you plan to retire. Your first required minimum distribution will be your prior year-end balance divided by your age 75 (your age by the end of the year) life expectancy factor. Using the Uniform Lifetime Table found in IRS Publication 590, your distribution factor would be 22.9, so if the prior year-end balance was $229,000, your RMD would be $10,000 for the year you retire. You would have until April 1st of the following year to distribute this amount. Your next RMD would be calculated the same way, but must be taken by December 31st of the following year.
4. RMDs may be taken from one IRA, but must be taken separately from multiple 401(k)s
If you have multiple IRAs, you must calculate the RMD for each individually, but you may satisfy your RMD from one account if you choose. That is NOT the case with 401(k) accounts. If you have multiple 401(k) accounts, you must calculate and take RMDs from each account separately. Remember, you can roll a 401(k) to a traditional IRA as a way of consolidating accounts, but an RMD will be taken before the account is rolled over.
The good news is that your IRA custodian and 401(k) administrator will most likely calculate your RMD for you, but it’s good to know how it’s done, and now you know what to expect if you plan to work beyond 70 ½. 🙂