Required Minimum Distributions (“RMDs”) can be difficult to “plan away” depending upon the size of your IRA, age and overall complexity of our tax laws, so unfortunately there may be no magic bullet to alleviate your tax burden. Rather, multiple strategies might be needed to whittle down your income to the next lowest bracket, increase your deductions, etc. Also, keep in mind, the farther in advance one considers these planning ideas, the better the opportunity for success. For individuals receiving required minimum distributions currently, or in the near future, here are 5 ways to reduce your RMDS and their related tax bite.
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- Make a Qualified Charitable Distribution. You can lower your tax bite by donating your RMD directly to charity. This popular strategy known as a Qualified Charitable Distribution (“QCD”), allows you to donate directly to a public charity and avoid including this income on your tax return. Each person that is 70 ½ or older can donate up to a maximum amount of $105,000 in 2024 directly to charity. If you have an RMD requirement, then a QCD will also count towards that requirement. This is a powerful way to lower your taxable income and benefit your favorite public charity. Additionally, if you are very charitably minded but not yet age 70 ½, you can always take a distribution (after 59 ½ without penalty) from your IRA and donate that amount to charity. The added flexibility here is that you could donate this money to your private foundation or donor advised fund, which is not the case with a QCD. This flexibility may come at a price since you would have to include the distribution in income for the year and rely on the corresponding charitable contribution deduction to offset this income. Long-term these charitable distributions would also have the effect of reducing the value of your IRA that drives the amount of your future RMDs.
- Distribute IRA Funds Early. Strategically taking distributions from your retirement accounts before they are required is another strategy to reduce your future RMDs. You can take distributions from your retirement accounts after age 59 1/2 without incurring an early distribution penalty. If you have stopped working and your taxable income is expected to go down, then your tax rate might be lower now than when your future RMDs begin. Remember, RMDs are now slated to begin when individuals turn age 73 and increase to age 75 in 2033. When the RMD age is pushed back, that means your IRA can grow for a few more years causing your RMDs to theoretically be larger. If you don’t need this money for living expenses after you retire (and possibly before your Social Security begins), then you should also consider ROTH IRA conversions.
- Convert to a Roth IRA. In addition to this account providing for both tax-free growth and distributions, another benefit of a Roth IRA is that RMDs are not required. Therefore, to the extent you can make partial Roth conversions from a traditional IRA each year, you can build up your Roth IRA, decrease your traditional IRA, and decrease future RMDs. A key metric to look at is your tax rate today versus the future. If you can convert today at a lower rate versus leaving the money in the traditional IRA (with future RMDs at a future higher tax rate), then it may make sense to convert today and pay the tax.
- Utilize Employer’s 401(k) Plan. If you are a participant in your employer’s 401(k) and the plan allows for it, you can defer your RMD past the required beginning date if you are still working. Your RMDs would then begin on your eventual retirement. Note that this only applies to the employer’s 401(k) and not to any IRAs or other retirement accounts you may have. Again, if the plan allows you could rollover your IRA funds into the 401(k) and accomplish deferral with those funds as well. In addition, you cannot be more than a 5% shareholder in the company.
- Keep Making IRA Contributions. If you are working but not covered by an employer plan and need to take your RMDs, you may still contribute to an IRA. It may seem odd to be making a deductible retirement contribution while also taking a retirement income distribution, but this situation provides for an allowable offset to your income. Please note that while there is no age limit, you still need to have earned income to contribute to your IRA. The maximum contribution for 2024 if you are age 50 or older is the lesser of your earned income or the $8,000 contribution maximum.
While it is difficult to plan away the ordinary income from an RMD, some of these strategies may be worth pursuing given your personal tax situation. To explore these further, please contact us!
All written content is for information purposes only. Opinions expressed herein are solely those of Stinnett Wealth Planning, LLC unless otherwise specifically cited. Material presented is believed to be from reliable sources and no representations are made by our firm as to another parties’ informational accuracy or completeness. All information or ideas provided should be discussed in detail with an advisor, accountant, or legal counsel prior to implementation.