What Happens If You Don't Take Your Required Minimum Distribution (RMD) in Retirement?

Are you currently 73 years old (or older), and have any money in an IRA? If the answer to both of these questions is yes, you've got just a few days left to make a move that will sidestep a potentially costly penalty. You must remove a minimum amount of money from the retirement account in question before the Dec. 31 deadline.

This reminder raises an important question about the matter though: What happens if you don't complete your required minimum distribution by the time it's supposed to be done? Spoiler alert: The IRS gets involved. Penalties are imposed. Ugh.

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How do required minimum distributions work?

If you're an owner of an individual retirement account and you turned 73 years old before 2024, then this year isn't your first rodeo, so to speak. Regardless, a refresher may be in order, if not an outright explanation for anyone who only turned 73 this year.

Simply put, you're required to take at least some money out of most IRAs by the end of every calendar year beginning in the one during which you reach 73 years of age.

But how much money? It depends on your age. Your first year's required distribution is on the order of 4% of the previous year's ending balance. This proportion gets a little bigger every year thereafter, however, although the actual size of the required distribution can get smaller over time if these payments otherwise outpace the account's growth.

The IRS's mathematical goal is for your retirement account to finally be emptied the year in which you turn 120 years old. This rarely happens so precisely, of course, since it's impossible to predict how a retirement account's value will ebb and flow over time.

Regardless, your broker should provide you with a specific RMD figure on a tax Form 5498, which is based on the account's value as of the end of the prior calendar year.

Also understand that while there's an annually required minimum distribution, there's no maximum limit. You can take as much money -- or other assets -- out of the IRA as you want. Just bear in mind that these are taxable withdrawals, since they're coming out of tax-sheltered accounts. The bigger the distribution, the more likely it is you'll bump yourself into a higher income tax bracket.

There are some exceptions to RMD rules, for the record. Chief among them is the fact that your very first one doesn't need to be completed until April 1 of the year following the one in which you turn 73. (After that first year, the Dec. 31 deadline always applies).

Also know that non-inherited Roth IRAs aren't subject to minimum distribution requirements, since this money was already taxed before going into these accounts. And, on the off-chance you're still working and contributing money to a 401(k) or similar workplace retirement plan, with some rare exceptions, these savings accounts aren't subject to RMD rules -- at least not until the year you stop working.

The cost of not taking an RMD

But what happens if you don't follow the required minimum distribution rules? Well, let's just say you'll probably want to make a point of adhering to them. No surprises here -- if you don't take your required minimum distribution by the deadline applicable to you, the IRS eventually forces you to do so anyway, charging you a penalty on the amount you should have taken out but didn't in the process.

And it's not exactly a small number. You're subject to a penalty of 25% of the shortfall between the amount you actually took out of the retirement account and your officially calculated RMD. Yikes!

Don't panic. This penalty is dialed back to a more manageable 10% of the shortfall if it's corrected within two years of its intended completion date. In fact, if you think you can convince the IRS that any failure to take your RMD was the result of a reasonable error (and presumably, the error is being fixed as quickly as possible once the mistake is realized), you might be able to sidestep the penalty altogether. You'll just need to plead your case on a tax Form 5329 filed along with your other annual tax documents. This, of course, isn't a nicety you can count on being extended.

And if you happen to own more than one retirement account that's subject to required minimum distribution rules, don't feel like you have to take out each account's officially calculated RMD. If it's more convenient to take more from one and less from another, that'll work. The IRS's only concern is that you remove the correct total amount from all of your applicable IRAs combined.

But how does the IRS even know how much you're supposed to be removing from these retirement accounts in the first place? Your broker or retirement plan manager annually reports updated information on these accounts to the federal government's tax authority. You might sidestep the organization's scrutiny for a short while. The agency will figure things out sooner or later though, and probably sooner than later. It's ultimately easier -- and cheaper -- to just be proactive about your RMDs rather than risk the ire of the world's most effective collections agency.

Whatever the case, if you're supposed to take a required minimum distribution in calendar 2024, the clock is ticking. You'll want to contact your IRA's service provider as soon as you can, just to make sure the transfer is done or the check is cut by Dec. 31.

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