When it comes time to take required minimum distributions (RMDs) from your retirement savings accounts, it’s important to consider how those withdrawals can increase your taxable income in retirement. People still working in their 70s may be particularly concerned about rising taxes – but there may be a fix.
If you’re still working, you may not need to take RMDs from your 401(k) plan yet. But the same rule doesn’t apply to individual retirement accounts (IRAs). Here’s what you need to know.
What is the RMD exception if you are still working?
RMDs are required to be withdrawn from traditional retirement plans that typically begin at age 73 (or 75 if born in 1960 or later). Generally, the older you get, the higher the percentage you’ll need to withdraw from your traditional retirement plans. Roth plans are generally not subject to RMDs.
This context sets the stage for understanding how RMDs change when you’re still working. The salary will increase your taxable income, but you can delay the RMD from your current employer’s plan until you retire. Not all workplace retirement plans allow for exceptions, so it’s a good idea to check if it works for your company.
You generally need to work with your plan administrator to use the RMD exception, and you cannot own more than 5% of the business that sponsors the plan. Delaying RMDs means you can avoid tax withdrawals on money you don’t need.
An exception applies to 401(k)s, but not IRAs
The exception applies only to eligible retirement plans sponsored by your current employer. 401(k), 403(b) and similar workplace plans are eligible. However, IRAs, SEP IRAs and SIMPLE IRAs are not eligible.
The 401(k) exemption also applies to your current employer. If you have an old 401(k) from a company you no longer work for, you may need to make RMDs for that account without having to roll it into your current employer’s plan. It’s a good idea to check with your current employer whether the plan accepts rollovers and whether it will protect you from RMDs before transferring to old accounts. Taking that extra step can help you avoid tax penalties.
How to apply the law without creating a tax headache
The first step is to check whether your current 401(k) allows you to delay RMD withdrawals while you are still working. If exceptions exist, you can consider withdrawing funds from inactive 401(k) plans. Some employees must also certify that they do not own 5% or more of the company.
Even if you qualify for an RMD exception, it may make sense to withdraw from your retirement plan, depending on your overall income and tax situation. Delaying a 401(k) RMD gives the money more time to grow, and that can result in larger RMDs in retirement.
It is important to stay on top of RMD eligibility and tax management as the IRS has steep penalties for missing RMDs.
