How RMDs Work — and Why the Clients Who Saved the Most Are Often the Most Surprised
There's an irony in retirement planning that doesn't get discussed enough. The people who followed the rules most faithfully, maxed their 401k every year, deferred everything they could, often end up with the biggest tax problem in their 70s. At what age your Required Minimum Distributions start depends on when you were born:
Born before July1,1949: Age 70.5
Born July 1, 1949 –December 31, 1950: Age 72
Born 1951 – 1959: Age 73
Born 1960 or later: Age 75
Required minimum distributions. The IRS let you defer taxes on that money while you were working. At some point, it collects. For many, starting at age 73, you have to pull a minimum amount from your pre-tax retirement accounts every year, whether you need the money or not. The larger the balance you've built, the larger the forced withdrawal.
For clients with $1.5 million or more in traditional IRAs, the first RMD can easily exceed $55,000. Stacked on top of Social Security, that can push someone into a bracket they've never been in during their working years.
How the Calculation Works
Each year, divide your account balance at December 31 of the prior year by a life expectancy factor from the IRS Uniform Lifetime Table. At 73, the divisor is roughly 26.5, so the required withdrawal is about 3.8% of the balance. The divisor shrinks each year, meaning the withdrawal percentage grows. By 80, you're pulling close to 5% whether you want to or not.
For a $2 million pre-tax IRA at 73, that's $75,000 in forced ordinary income in year one. By 80, it could be $100,000 or more, depending on how the balance has grown in the meantime.
Why They Create Bigger Problems Than Expected
Social Security stacks on top. Retirees are already receiving Social Security by 73. Adding RMD income to Social Security income potentially causes more of the Social Security benefit to be taxed, up to 85% of it, at your ordinary income rates. The combined effect is often a higher effective tax rate than the client paid during their working years.
IRMAA surcharges follow two years later. Large RMDs push Modified Adjusted Gross Income higher. Cross an IRMAA threshold and Medicare Part B and Part D premiums increase the year after next. A significant RMD at 73 can mean higher Medicare costs at 75, which is not when most people want to see extra expenses.
The balance keeps growing if the withdrawals don't outpace the returns. If your RMD at 73 is $55,000 but the account earns 6% on $1.5 million, the account grows by $90,000 before the RMD. Your balance is higher at 74 than it was at 73, which means your next RMD is larger. The problem compounds.
What You Can Do Before RMDs Begin
The years between retirement and RMD age are the most valuable tax planning window most people have. Taking money out of traditional IRAs deliberately during that window, at rates you control, is almost always better than waiting for RMDs to force it out at rates you don't.
Roth conversions are the most common tool to help address this problem. Convert a portion of the traditional IRA to Roth each year during the gap period, paying tax at the current lower rate, reducing the balance that will generate future RMDs. The money in the Roth never generates an RMD and grows tax-free indefinitely.
Strategic IRA withdrawals before 73 work too, even if you don't strictly need the income. Pull from the IRA during low-income years, fill up lower brackets deliberately, and reduce the future RMD obligation. This is counterintuitive for people who spent decades deferring everything, but when factoring in taxes, they can come out ahead.
Qualified Charitable Distributions are worth knowing about if you're charitably inclined. Once you hit 70.5, you can direct up to $105,000 per year from your IRA directly to a qualified charity. The distribution counts toward your RMD but doesn't show up as taxable income. For clients who give regularly to their church or other organizations, this is one of the most efficient tax tools available.
Missing an RMD used to carry a 50% penalty on the missed amount. The SECURE 2.0 Act reduced it to 25%, and to 10% if corrected within two years. Still not a penalty worth triggering that is easily avoided.
I'm a fee-only CFP in Pleasant Grove, Utah. If you're in your sixties and haven't looked at your projected RMD obligation, it's worth doing now rather than at 72. Book a free intro call here.