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Mark Miller: Remaking Retirement

Required Minimum Distributions: Why All the Tinkering?

Congress continues to change the RMD rules, but contributor Mark Miller argues the activity isn't improving retirement security.

Some retirees get worked up over required minimum distributions, or RMDs. They don't want to take them (but they must), or they're looking for ways to avoid them (which is difficult to do). And Washington loves to tinker with RMDs. Congress has revised the rules not once, but twice, since 2019.

All of this strikes me as really small beer.

The RMD rules affect a relatively small share of retirees--those who don't need to draw down savings to meet living expenses and would prefer to hang on to the money for bequest or other purposes. Most retirees will need to draw down sufficient funds to meet RMD requirements--and then some--to cover living expenses.

But Congress bumped up the RMD age to 72 in the SECURE Act of 2019. The rationale: People are working longer and life expectancy is rising, so a delay in the starting age for RMDs would be helpful. That's fine insofar as it goes, but the share of workers staying on the job past age 70 is quite small. For example, just 13% of workers claimed Social Security at age 67 or later in 2018, according to Social Security data. And while greater longevity certainly is happening on average, it varies greatly based on a number of factors, especially education, race, and affluence.

The change in the required RMD age is therefore people who don't much need it--and for everyone else, it's irrelevant.

Then in March, the CARES Act suspended RMDs altogether for 2020. The waiver benefited anyone who turned 72 in 2020 or was 70 1/2 years old before 2020, and also people who inherited IRAs. If you took an RMD earlier last year, you could return it by Aug. 31, and it would not count toward your taxable income for the year. RMDs are back for 2021.

All this legislative action brings to mind a memorable admonishment I received years ago from a former boss: "Don't mistake activity for progress."

Fooling around with the RMD age makes it seem that Congress is taking action to improve retirement security--but it's really just tinkering on the margin.

Extending the RMD age has precious little impact on savings and asset allocation in and outside tax-qualified retirement accounts, according to a new study published by the TIAA Institute that examined RMDs and tax-deferred accounts. It also found that Social Security-claiming behavior is unaffected by a higher RMD age.

The former RMD age of 70 1/2 was just fine for most retirees, the researchers found that: "The current RMD rules are not particularly restrictive, as optimal expected withdrawals from 401(k) plans are substantially higher than the RMD pattern required by the IRS. For them, withdrawal behavior at a later RMD, or even with its abolition, would change little."

However, one group is affected significantly by the change in RMD age: those who want to leave money to heirs rather than spend it during their own lifetimes. For this group, the RMD rules are "quite restrictive."

But is that really a problem? After all, the purpose of the tax policy permitting contributions to tax-deferred accounts is to encourage people to prepare for their own retirement, not to enable legacy bequests, notes Olivia S. Mitchell, a co-author of the report and a professor of business economics and public policy at the University of Pennsylvania's Wharton School.

"If people do pass on wealth to the next generation in a tax-favored vehicle, this undoes some of the progressivity of the income tax that Congress has written into law," she says.

Proposals to adjust the RMD age persist. One plan introduced last fall would boost the RMD age to 75. That one was introduced by two legislators with significant power: House Ways and Means Committee Chairman Richard Neal, Democrat of Massachusetts, and the committee's ranking member Kevin Brady, Republican of Texas. And in 2019, a plan was offered in the Senate that would have eliminated the RMD age for retirees having retirement assets worth less than $100,000 in aggregate.

The Basics
A quick note on how RMDs work: Contributions to traditional IRAs and 401(k) accounts aren't taxed up front, but the government gets its due down the road. When you reach the required age, a certain amount of your tax-deferred savings in IRAs and most 401(k) accounts must be drawn down every year under the RMD rules. And younger people may need to take RMDs on inherited IRAs.

Missing an RMD leaves you on the hook for an onerous 50% tax penalty, plus interest, on the amounts you failed to draw on time.

Rule Changes
Lately, it's been a challenge just keeping up with all the RMD rule changes.

The SECURE Act lifted the restriction prohibiting contributions to IRAs after age 70 and bumped up the age at which you must take RMDs to 72 from 70 1/2.

That law contained one other provision with a dotted-line connection to estate planning--elimination of the so-called "stretch IRA," which allowed nonspouse beneficiaries to draw down inherited tax-deferred accounts over the course of their lifetimes. Heirs are now required to draw down the entire account amounts within a 10-year window. Under the old stretch rules, inherited IRAs could be drawn down over the lifetime of the heir, based on a schedule tied to his or her own life expectancy.

The new stretch rules can create tax problems for beneficiaries, depending on when they inherit these accounts. This could occur during peak earning years, or push them into high-income Medicare surcharge territory.

So, that's a complication for heirs that bequestors might want to fix by moving funds out of tax-deferred accounts. That seems at odds with any justification of higher RMD ages to ease bequests.

Minimize RMDs
So, you still want to obsess about your RMD strategy? Here are some strategies to consider.

Roth conversions will become more attractive for people aiming to pass along assets to heirs rather than using them to fund their own retirements.

Qualified charitable distributions can be counted toward an RMD. You can make direct charitable contributions up to $100,000 annually.

A qualifying longevity annuity contract, or QLAC, can be used to reduce RMDs. This is a type of deferred annuity funded with an investment from a retirement plan or IRA. You can buy a QLAC with the lesser of 25% of your retirement funds or $135,000. The investment is not included in your balance for RMD calculations.

An earlier version of this article stated that the QLAC limit was $125,000. This has been corrected to $135,000. 

Mark Miller is a journalist and author who writes about trends in retirement and aging. He is a columnist for Reuters and also contributes to The New York Times and WealthManagement.com. He publishes a weekly newsletter on news and trends in the field at RetirementRevised. The views expressed in this column do not necessarily reflect the views of Morningstar.