Formula RMD changing for the first time in decades

Formula RMD changing for the first time in decades

The IRS has good news for retirees: You can now keep more money in your tax-deferred retirement accounts thanks to lower Minimum Required Distributions (RMDs).

For the first time in 20 years, the IRS updated its actuarial tables that determine how much a person should withdraw from their retirement accounts after age 72. The new tables, which now project longer lifespans, are used to calculate RMDs from individual retirement accounts, 401(k)s, and other retirement savings vehicles each year. For help planning RMDs and meeting your retirement income needs, consider working with a financial advisor.

What are RMDs and how are they calculated?

One of the main benefits of retirement accounts is the tax advantages they provide. Traditional IRAs and 401(k)s allow retirees to defer taxes until they withdraw money from their accounts. This allows the money to continue to grow at a faster rate over time. However, you can only defer taxes for so long. To limit you to keeping your money in a retirement account indefinitely, the IRS requires you to withdraw a specific amount each year when you reach a certain age.

Previously, you were required to start making withdrawals from your IRA or employer-sponsored retirement plan when you reached age 70.5. But the SECURE Act of 2019 made a critical shift to when RMDs begin. If you reached age 70.5 in 2019, the previous rule applied and you had to make your first RMD by April 1, 2020. However, if you reached age 70.5 in 2020 or later, now you must make your first RMD by April 1st of the following year. reach 72.

People with the following accounts are subject to RMDs:

It is important to remember that Roth IRAs are not subject to RMDs.

Calculating your RMD is relatively easy. First, check the market value of your retirement account on December 31 of the previous year. Then, divide that amount by the distribution period value that corresponds to your age in the IRS uniform lifetime table.

For example, a 72-year-old retiree with $500,000 in his IRA would divide $500,000 by the distribution period value, which is 27.4. As a result, she would be required to withdraw at least $18,248 from her IRA in 2022.

Why the new RMD formula is good for retirees

With the IRS raising average life expectancy from 82.4 to 84.6, retirees will likely need to spread their assets over more years. As a result, RMDs starting in 2022 will be lower than they were under the previous formula, which was in effect since 2002.

This is good news for retirees or anyone subject to RMDs. With smaller withdrawals required each year, more of your retirement assets can remain in an IRA, 401(k), or tax-deferred account. Lower RMDs will lessen your tax liability and may put you in a lower tax bracket.

According to the previous Uniform Lifetime Table, a 72-year-old woman with $500,000 on her 401(k) would have to withdraw $19,531 ($500,000/25.6) during her first year of using RMDs. That’s $1,283 more that would be subject to income tax compared to the lower minimum withdrawal required by the revised table.

Meanwhile, a 72-year-old man with $2 million in his retirement account would have to withdraw $78,125 under the older formula ($2 million/25.6). However, the updated formula results in an initial RMD of only $72,992 ($2 million/27.4), which means that this retiree would keep an additional $5,133 in deferred increasing taxes in their retirement account.

Final result

For the first time since 2002, the IRS has updated the actuarial tables that determine the amount of money a person must withdraw from their IRA or 401(k) at a certain age. While the SECURE Act changed the age of the RMD from 70.5 to 72, the updated Uniform Lifetime Table has reduced the size of the RMDs, allowing you to keep more of your assets in a tax-deferred account. Obviously, RMDs are just the minimum amount that must be withdrawn each year. You can certainly withdraw more than one IRA or 401(k), but remember: the bigger the distribution, the bigger your tax bill.

Tips for Withdrawing Retirement Assets

  • A financial advisor can be a reliable resource when it comes to planning your de-accumulation phase. Finding a qualified financial advisor doesn’t have to be difficult. SmartAsset’s free tool matches you with up to three financial advisors in your area, and you can interview your advisor peers at no cost to decide which one is right for you. If you’re ready to find a consultant who can help you reach your financial goals, start now.

  • Anticipating your expenses and spending rate are vital components of retirement planning. Researchers at the Boston College Retirement Research Center have determined that the average family of retirees reduces their spending by 1.5-1.6% per year during retirement. This means that household consumption drops each year by an average of 0.75-0.80% for retirees, reaching double digits 20 years after retirement. SmartAsset’s Budget Calculator can help you keep track of your monthly expenses.

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Photo credit: ©iStock.com/Andrii Dodonov

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