Get to know some RMD basics

You've probably spent a good chunk of your life working and setting aside money for retirement through IRAs and tax-advantaged employer-sponsored plans—such as SEP-IRAs, SIMPLE IRAs, 401(k)s, 403(b)(7)s, or qualified plans. These types of investments allow you to postpone paying income taxes on such assets until you reach age 70½.

At that point, the IRS requires you to start drawing down those assets and paying the appropriate taxes by taking required minimum distributions (RMDs). There are two important exceptions. First, any Roth IRA you hold is exempt from RMD regulations during your lifetime. Second, if you're over 70½ but still working, you may not be required to begin taking RMDs from your employer's plan until you stop working (unless you're a 5% owner).

The IRS penalty for failure to take your proper RMD amount by December 31 each year is stiff—50% of the amount not taken. For example, if you were required to withdraw $1,000 from your IRA but failed to do so, the penalty would be $500. RMDs are generally taxed as ordinary income and reported on IRS Form 1099-R.

You can calculate how much you need to withdraw from your traditional IRAs and employer plans each year. Take your year-end account balance for each IRA or employer-sponsored plan account and divide the balance by your applicable life expectancy divisor—a number that you can get from IRS Publication 590 (Individual Retirement Arrangements). If you have several IRAs, you must calculate your RMD separately for each; however, you can aggregate the total RMD amounts and take a distribution from one or more of the IRAs.

Note that you must take RMDs from IRAs and employer plans independently; you can't aggregate the required amount and take a distribution from only one account type. For more about RMDs from your employer plan, contact your plan administrator.

A reminder: If you're planning to roll over assets from your employer plan or convert from a traditional IRA to a Roth IRA, you must take your RMD first.

If you turn 70½ in a given year, you may opt to delay your first RMD until April 1 of the following calendar year. If you choose to hold off, you'll then need to take your second required distribution by December 31 of the same year. You'll also have two tax liabilities—one for the prior-year amount and one for the current-year amount withdrawn.

For example, suppose you turned 70 on November 15, 2010. That means you'll be 70½ on May 15, 2011. You may take your 2011 RMD by December 31, 2011, or wait until April 1, 2012. If you defer, you must take a second distribution—for 2012—by December 31, 2012.

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