Taxation of required minimum distributions | Vanguard (2024)

FAQs

Taxation of required minimum distributions | Vanguard? ›

How are RMDs taxed? If all your IRA contributions were tax-deductible when you made them, the full amount of the RMD will be treated as ordinary income for the year in which you take it. If you also made nondeductible contributions to your IRAs, some of the amount won't be subject to income taxes.

The account owner is taxed at their income tax rate on the amount of the withdrawn RMD. However, to the extent the RMD is a return of basis or is a qualified distribution from a Roth IRA, it is tax free.

The IRS calculates RMDs by taking the balance of each of your tax-deferred retirement accounts at the end of each year and dividing it by a number based on your life expectancy and other factors. The denominator gets smaller and smaller as your age increases, meaning your distributions get larger and larger.

The one-word secret? Charity. By using a qualified charitable distribution, or QCD.

For example, if your traditional IRA distribution is $100 and your combined federal and state income tax rate is 30%, you'll owe $30 in taxes. You would subtract 30% from the total distribution ($100), which leaves you with a net of $70.

Avoid Taxes on RMDs by Working Longer

One of the simplest ways to defer RMDs and the taxes on those withdrawals is to continue working. If you're still working at age 73 or beyond and contributing to an employer's 401(k), the IRS allows you to delay taking RMDs from those accounts.

Taking RMDs can: Push you into a higher tax bracket. Cause your Social Security to be taxed at a higher rate. Result in increased Medicare premiums.

How RMDs are calculated. To calculate your required minimum distribution for the current year, you divide your account balance at the end of the last year by your life expectancy. The IRS provides tables that show you which life expectancy numbers to use based on your age and if you are sharing your RMD with a spouse.

Do RMDs impact Social Security and Medicare? RMDs generally increase an account owner's taxable income. Certain Social Security and Medicare calculations can be impacted. For example, a portion of Social Security benefits can be taxed for those whose RMDs push them above certain income thresholds.

The 4% rule limits annual withdrawals from your retirement accounts to 4% of the total balance in your first year of retirement. That means if you retire with $1 million saved, you'd take out $40,000. According to the rule, this amount is safe enough that you won't risk running out of money during a 30-year retirement.

Is RMD taxed as ordinary income? ›

RMDs are generally taxed as ordinary income for the tax year in which they are taken. If you have after tax money including non-deductible contributions made to your Traditional IRA, you must calculate your RMD based on the total balance, but your taxable income may be reduced proportionately for the after tax amounts.

In most cases, RMDs are treated as ordinary income for tax purposes.

In most cases we can recommend framing the issue this way: Your money has the most potential for growth if you take your entire minimum distribution at the end of each calendar year. However, personal budgeting may be easiest if you take your minimum distribution in 12 monthly portions.

Bottom Line. Yes, Social Security is taxed federally after the age of 70. If you get a Social Security check, it will always be part of your taxable income, regardless of your age. There is some variation at the state level, though, so make sure to check the laws for the state where you live.

If you haven't made any nondeductible contributions, all withdrawals are 100% taxable, regardless of how many IRAs you have.

Then when you're retired, defined as older than 59 ½, your distributions are tax-free. They are also tax-free if you're disabled or in certain circ*mstances if you're buying your first home.

Your Required Minimum Distribution can get you with a very high tax bill. That's because RMDs are taxed as ordinary income at your federal income tax rate and you may owe state taxes on the money, too.

Retirement plans: A retirement plan distribution paid to you is subject to mandatory withholding of 20%, even if you intend to roll it over later. Withholding does not apply if you roll over the amount directly to another retirement plan or to an IRA.

Age 73 and over: Required minimum withdrawals are mandatory

The amount of your RMD is calculated by dividing the value of your Traditional IRA by a life expectancy factor, as determined by the IRS. You can always withdraw more than the RMD, but remember that all distributions are taxed as income.

Then when you're retired, defined as older than 59 ½, your distributions are tax-free. They are also tax-free if you're disabled or in certain circ*mstances if you're buying your first home. In contrast, for a traditional IRA, you'll typically pay tax on withdrawals as if they were ordinary income.