Retirement: Managing RMDs Without Selling Stocks (2024)

Co-produced with Treading Softly

At High Dividend Opportunities, we focus on creating a large cash flow from your portfolio into your brokerage account. This money can be used to pay bills, fund exciting adventures, or can be reinvested into the market. To do this, we use our unique Income Method to approach the market, focusing on maximizing our income.

We frequently say we want to have dividends fund our retirement without having to sell a single share. This is 100% possible and is our goal.

We want to be income farmers, living off of our crops. We don't want to sell our farm piecemeal to pay the power bill.

Yet reality brings with it a boogeyman that brings a lot of grief to many retirees - Required Minimum Distributions, or RMDs.

- Source: Deposit Photos

What Are RMDs?

RMDs are something every retiree will be forced to become acquainted with quickly. It's the required amount that they are forced to withdraw from their retirement accounts annually after reaching age 72, if your 70th birthday is after July 2019, and 70.5 if before.

RMDs are designed to cause a steady decline in the balance of your tax-deferred accounts as you approach the end of your expected lifespan. To do this, RMDs increase each year percentage wise, starting with a little less than 4% and growing to 52% once age 115 is reached. While the dollar amount distributed may very well shrink with time due to the forced reduction in your portfolio's size, the percentage amount will always increase. The IRS provides a simple worksheet located here to determine the dollar amount required to be withdrawn.

NOTE: Roth IRAs are exempt from this requirement and will not be addressed in this discussion.

RMDs - Considering all the angles

RMDs, by design, prevent hoarding funds and accumulating in a tax-deferred status indefinitely. The government, after all, wants its piece of the action. RMDs are designed to force retirees to steadily liquidate their tax-deferred balances until they are empty, forcing recognition of taxable income. The rate of withdrawals picks up as the retiree ages to leave the nest egg almost entirely empty upon death. The percentage changes each year as the remaining expected life expectancy changes. The worksheet from the IRS linked above gives percentages out far longer than most retirees will need as it goes out to age 115.

The risk is that poor market conditions may require sales of shares that have experienced significant dollar losses. This is a risk with any plan requiring capital to be withdrawn on a schedule. For example, had you purchased AT&T (T) at $56 back in 2000 and are now forced to sell shares of it to meet your RMD requirements – you've realized losses per share and also lost the future income generated from this asset every quarter. To add insult to injury, realized losses in a tax-deferred account are not able to be used on your tax return to reduce your taxable income.

By far, the worst aspect is reserved for investors who aim to benefit solely from capital gains or price appreciation. Stocks like Tesla (TSLA), Netflix (NFLX), and Amazon (AMZN) have seen strong price appreciation in recent years. If their prices were to drop suddenly and a retiree was forced to sell them in a recession, they would have produced zero dividend payments and only realized losses. Essentially, in that specific instance, an investor will end up both paying taxes on their RMD and having losses from poorly timed sales due to their RMDs. This makes the timing aspect of RMDs extremely important. Otherwise, RMDs can be a death sentence to your retirement savings. This is the specter of the dreaded "Sequence of Returns" risk.

The market does not climb in a straight line. It moves in waves, rising and falling like the ocean. Selling at a peak is much better than selling at a fall. Imagine selling your shares in March of 2020 vs. February of the same year. Those who procrastinated a single month to take their RMD withdrawal lost a lot!

Now that we know what RMDs are and how they work. They're designed by the government to empty those lucrative tax-deferred honey pots and to make you have taxable income. What's a retired income investor to do if they don't have the cash to cover an RMD withdrawal, and don't need the cash the RMD will provide to survive? How can we save the farm from being sold by force?

They can look to an "In-Kind" RMD.

What Does "In-Kind" Mean?

An In-Kind withdrawal is a type of withdrawal you can make to satisfy RMD requirements, withdrawing shares. This means that rather than selling shares and taking the cash out of the retirement account, the investor directly removes some securities and places them into another account. In this case, it would need to be to a post-tax or taxable account. We can't skirt the government's love of tax money forever.

How In-Kind RMDs Work

If you decide to take an In-Kind RMD one tax year, then some forethought is required. Brokerages will require time to prepare the appropriate tax forms and to provide them to you. Furthermore, you are taxed as if you received the cash value of the stocks or securities - this means you will still pay federal taxes on the value equivalent, so you'll need to have the cash to cover this amount. You can avoid selling your shares, you can't avoid the taxes.

To do an In-Kind RMD, you must ask your IRA brokerage firm to move a set amount of securities from your tax-advantaged account to another taxable account. You will have to be specific about which securities are to be withdrawn and how many shares (units, notes, or bonds) of those securities to move. RMDs require a minimum to be distributed but not a maximum. It might be a good idea to move more than the minimum but keep the dollar amount below what will put you into the next higher tax bracket. Thus maximizing the benefits of moving the securities.

The brokerage will not be held at fault if their In-Kind RMD process is slow and causes you to miss the deadline for RMDs - causing tax penalties - so putting in the request early is essential. This also gives your brokerage the appropriate time to appraise the value of the assets and transfer it to your taxable account. You will receive a 1099-R showing the cash value of the distribution that you received from them or that they moved. These securities now survive in their original format in the account of your choosing.

Thankfully many brokerages have streamlined this process if done all in-house. That means if you have an IRA and a taxable account with one brokerage, many will allow you to do everything electronically with next to no lag time. They don't have to do an extensive transfer to another company, thus making the process simpler. Retirees considering an In-kind RMD may want to consider having both accounts in one place simply for the ease of it.

Picking The Right Securities

In-kind RMDs work well for various types of securities that could otherwise cause complications. MLPs that issue a K-1 at tax time face additional scrutiny for unrelated business taxable income or UBTI. Often a large amount of UBTI is generated when selling MLP type securities to change investments or generate the cash needed for an RMD. By doing an In-Kind RMD, you can help avoid this concern - the units are transferred without generating UBTI, and now you receive the MLP distributions in your new account. Assuming that the new account is taxable, you will have a K-1 to report on taxes each year until you sell it, but the new distributions are also tax-deferred until then for most MLPs.

Another choice for In-Kind RMDs are stocks whose value may have been decimated by a recession or one-off event, which you think will recover their value again. By moving them In-Kind, you keep those shares until you decide to liquidate them. Your cost basis will be reset to the security's value upon completing the transfer (since you pay taxes on that value). This can provide room to see additional gains or potentially a higher yield on cost. If the prices continue to fall, or you lose faith in those investments, you could sell them - although you may face taxation on them a second time based on the new cost basis.

- Source: Dreamstime

Key Takeaways

In-Kind RMDs provide investors a route to maintain their shares or units without selling them while simultaneously meeting IRA requirements. Caution is always required - recognizing that you will pay taxes on the cash value and that receiving dividends or selling those securities in their new location may cause additional taxation.

As income farmers, we want to live off the produce of our income farms, not sell the farm itself! The government has placed in motion requirements forcing tax-deferred gains to be taxed before our deaths. We can avoid the requirement to sell our excellent income-generating positions by moving them "In-kind." This allows us to move our income generators from point A to point B without losing a dime of income along the way.

My goal is to tend my farm as long as possible, letting the income from my years of hard work do the heavy lifting for me! This is why I invest for income and dividends in the first place. Let them do the work so that I can enjoy more play. More fun. Less stress.

RMDs may be one more thing to think about, however, they're not the death knell for income investors. Just one more process to be aware of as we reach our twilight years, and by preparing in advance, an "In-Kind" transfer can be a useful tool.