More on IRA Required Distribution Rules

Last month’s article covered the basics of taking IRA distributions when you reach age 70 ½. This article will cover some additional dimensions of IRA Required Minimum Distributions (RMD).

Much of the calculation of an IRA owner’s RMD is based on the beneficiary designation. This is the person/entity who upon death of the owner will inherit the IRA. In many cases, the beneficiary is the spouse so the calculation may be based on the Uniform Lifetime Table which is fairly straightforward. In other situations the beneficiary may be another relative, the owner’s estate or a trust. Should a non-spouse be the named beneficiary of the IRA, the Single Life Table will be used to calculate the RMD each year which is less favorable. If the IRA has no named beneficiary the Single Life Table must also be used. With no named beneficiary the entire IRA gets distributed to the owner’s estate upon death and subsequently passes through their will (known as probate). Rarely does it make sense for one’s estate to be the named beneficiary since the income taxes will all be due upon death (at likely a much higher tax rate) and the remaining assets in the IRA will then be probated with the owner’s other assets.

Another consideration is if the IRA owner has multiple IRAs. Let’s assume Lauren is age 72 and is married. She has an IRA at the bank valued December 31st of the prior year at $20,000 and an IRA rollover with an investment company valued at $100,000 at the end of the prior year. To calculate her distribution, she must consider ALL of her IRAs in total. Therefore her RMD for the current year is $4,687.50 – based on a divisor of 25.6 found on the Uniform Lifetime Table. She has the option of withdrawing this amount from either or both of her IRAs. She can take the full distribution from the bank IRA or all from the investment account. She can also split the amount between the two accounts. The important factor is that she withdraw $4,687.50 from IRAs.

Now let’s assume Lauren is still working and is currently participating in a 401(k). Even though the 401(k) is a retirement asset and she has attained age 70 ½, she does NOT have to take withdrawals from that account. However, upon leaving that employer, she would need to begin RMDs from that account as well.

Upon Lauren’s husband’s death, she changes the beneficiary to her three children. Her required distributions will still be based on her age but she will need to use the Single Life Table which is less favorable. However, when Lauren dies, the distributions will be calculated on the same table (Single Life Table applies to Beneficiary IRAs as well) but the beneficiary’s age applies rather than Lauren’s so the taxes are more favorable to her children.

Selecting a beneficiary is very important to maintain the tax-deferred status of the IRA. Since IRAs are non-probate assets (do not pass through the will) the beneficiary is extremely important. Careful consideration should be made. When choosing a beneficiary you may be asked if the beneficiaries are per stirpes (pronounced per stir’ peez) or per capita when naming children. Under per stirpes – if a beneficiary dies before the benefit is paid out, his/her share will pass to the beneficiary’s own children. If named as per capita (or per head) – the only beneficiaries alive at the time the benefit is payable will share in the asset. For example: Mom names her three children as beneficiary. If she selects per stirpes and one child predeceases her, that child’s portion of the IRA will pass to their children (Mom’s grandchildren). If she selects per capita and one child predeceases her, that child’s portion will pass to the other two children named.

Again, IRAs and their required distributions have fairly complicated tax dimensions so it’s always a good idea to discuss this with your investment advisor and/or tax preparer.