11.5 Distributions & RMDs

Distributions & Required Minimum Distributions

Understanding distribution rules is crucial for retirement planning and avoiding costly penalties.

Early Distribution Penalty

The 10% Penalty

Applies to distributions from qualified plans and IRAs before age 59 1/2.

Penalty is on the taxable portion of the distribution.

Exceptions to 10% Penalty

IRA Exceptions (Section 72(t))

Age 59 1/2+: Standard distribution age

Death: Distributions to beneficiary

Disability: Total and permanent disability

First-time home: Up to $10,000 lifetime

Higher education: Qualified education expenses

Medical expenses: Unreimbursed expenses greater than 7.5% of AGI

Health insurance: Premiums while unemployed (12+ weeks)

SEPP: Substantially equal periodic payments (72(t))

IRS levy: IRS takes the distribution

Birth/adoption: Up to $5,000 per event

Additional Employer Plan Exceptions

Age 55 separation: Leave employer at age 55+ (not for IRAs)

QDRO: Qualified domestic relations order (divorce)

Corrective distributions: Excess contributions returned

ESOP dividends: Dividends from employer stock

SEPP (72(t) Distributions)

Substantially Equal Periodic Payments:

- Must continue for 5 years OR until age 59 1/2 (whichever is longer)

- Three calculation methods: life expectancy, amortization, annuitization

- If modified before end of period, 10% penalty applies retroactively to ALL distributions

- Irrevocable once started

Required Minimum Distributions (RMDs)

SECURE 2.0 RMD Age

Before 1951: RMD Starting Age 72

1951-1959: RMD Starting Age 73

1960 and later: RMD Starting Age 75 (starting 2033)

Accounts Subject to RMDs

Traditional IRA: Yes, at age 73

SEP IRA: Yes, at age 73

SIMPLE IRA: Yes, at age 73

401(k), 403(b): Yes, at age 73 (or retirement, if later)

Roth IRA: NO (owner's lifetime)

Roth 401(k): NO (after SECURE 2.0)

RMD Calculation

RMD = Prior Year-End Account Balance / Life Expectancy Factor

Life expectancy factor from IRS Uniform Lifetime Table (or Joint Life Table if spouse is sole beneficiary and 10+ years younger)

RMD Deadlines

First RMD: April 1 of year following year turning 73

Subsequent RMDs: December 31 of each year

Warning: If you delay first RMD to April 1, you must take TWO RMDs in that year.

RMD Aggregation Rules

IRAs: Calculate separately, can withdraw from any IRA

401(k)s: Must withdraw from EACH plan separately

403(b)s: Can aggregate among 403(b) accounts

Penalty for Missing RMD

Standard Penalty: 25% of shortfall (reduced from 50% under SECURE 2.0)

If Corrected Timely: 10% of shortfall

Correction Period: End of 2nd year following year RMD was due

Inherited IRA Rules (Post-SECURE Act)

10-Year Rule (Most Non-Spouse Beneficiaries)

For IRAs inherited after December 31, 2019:

If Original Owner Died Before RMD age: Annual RMDs Required? No. Account Depletion: By end of year 10

If Original Owner Died After RMD age: Annual RMDs Required? Yes (years 1-9). Account Depletion: By end of year 10

Eligible Designated Beneficiaries (Exceptions to 10-Year Rule)

Can still use "stretch" IRA (life expectancy):

- Surviving spouse

- Minor children (until age 21, then 10-year rule)

- Disabled individuals

- Chronically ill individuals

- Beneficiaries not more than 10 years younger than deceased

Rollovers and Transfers

Direct Rollover (Trustee-to-Trustee)

Method: Funds move directly between custodians

Withholding: None

Frequency: Unlimited

Deadline: N/A

Preferred? Yes

Indirect Rollover (60-Day)

Method: Check to you, you deposit within 60 days

Withholding: 20% on 401(k) distributions

Frequency: Once per 12-month period (IRA-to-IRA)

Deadline: 60 days from receipt

Risk: Miss deadline = distribution + penalty

In Practice

Key planning considerations:

- Delay first RMD if possible, but avoid "double RMD" year

- Roth conversion may reduce future RMDs

- QCDs (Qualified Charitable Distributions) satisfy RMDs for those 70 1/2+

- Consider inherited IRA 10-year rule in estate planning

- Always use direct rollover when possible

On the Exam

Series 65 frequently tests:

- RMD starting age (73 for most, 75 starting 2033)

- Roth IRA has NO RMDs during owner's lifetime

- 25% penalty for missed RMD (reduced from 50%)

- 10-year rule for non-spouse inherited IRAs

- Early withdrawal exceptions (especially 55 separation rule for 401(k))

Key Takeaways

1. RMDs begin at age 73 (75 for those born 1960+)

2. Roth IRAs and Roth 401(k)s have NO RMDs during owner's lifetime

3. Missed RMD penalty: 25% (10% if corrected timely)

4. Most non-spouse beneficiaries must deplete inherited IRA within 10 years

5. First RMD can be delayed to April 1, but creates "double RMD" year

6. Direct rollovers are preferred over 60-day indirect rollovers