Defined-contribution plans such as a 401(k), 403(b), 457(b) plan or profit-sharing plans are a self-directed way to save for retirement: you get to decide how much you want to put into the plan using tax-deferred dollars, and you get to choose from a selection of investments (or participate in company profits) as offered by the plan. Once you retire, however, the IRS has some say in how much and when you get to spend this money.
If you plan to use your 401(k) or defined-contribution plan to fund your income needs during retirement, then you will want to be aware of the IRS tax rules that tell you when you must take the money out. If you choose to roll some or all of your 401(k) in an IRA, then you should be aware of the RDM rules for IRAs.
RMD RULES FOR DEFINED-CONTRIBUTION PLANS
The amount of income you are required to withdraw from your defined-contribution plan is called your Required Minimum Distribution or RMD. The rules set forth by the Internal Revenue Service (IRS) for defined-contribution plans are slightly different than the rules for IRA plans. One of the most notable differences is that if you have more than one 401(k) or defined contribution plan – such as from multiple jobs or places of employment – you have to make each RMD withdrawal separately, for each plan. The exception to this is if you have more than one 403(b) tax-sheltered annuity.
For 401(k), profit-sharing, 403(b), or other defined contribution plans, you have until the LATER of the following two scenarios:
April 1 of the year following the calendar year in which you reach age 70½.
The year in which you retire (if allowed by your plan).
Please note: for profit-sharing plans, if you are a 5% owner, you must start your RMDs according to the rules for IRAS – by APRIL 1st of the year following the year you turn 70½. The IRS specifies April 1 of the year following your 70½ birthday, but after this first withdrawal, subsequent withdrawals must be made by December 31st.
Q AND A FOR DEFINED-CONTRIBUTION PLANS
How much do I have to take out for my RMD? It is your age and the account value that determine the amount you must withdraw. Another difference between an IRA and a defined contribution plan is that with these kinds of plans, your plan sponsor or administrator should calculate the amount of your RMD for you.
Can you take out more than the RMD amount? Yes. Any amount you take out will be considered as part of your taxable income for the year. If you take out more than your RMD one year, however, you cannot apply the excess withdrawal amount to the following year.
Can I take out more than one withdrawal during the year to meet my RMD? Yes, once you turn 70½, you can take multiple withdrawals throughout the year as long as you reach your total RMD requirement by the specified time.
What is the penalty for NOT taking out your RMD? You may have to pay a 50 percent excise tax on the amount you failed to withdraw, in addition to the taxes owed. This penalty is also charged if you fail to take out enough money.
As part of a comprehensive retirement planning service, many financial advisors help their clients to plan for their RMD. To find out the most advantageous way to maximize the money in your 401(k) or defined-contribution plan, feel free to contact us and one of our financial experts will get back to you.