Good News About RMDs in 2023

Key Takeaways

• Not so long ago, the age for required minimum distributions was 70.5. It moved out to 72, and now 73 is the starting age for RMDs. That age is set to go all the way to 75 eventually, so people may be able to push off that date at which they need to take those distributions.
• Before Secure 2.0, people would need to roll their assets into a Roth IRA to skirt RMDs.
• The reason that many people might see lower RMDs in 2023 is that we didn’t have such a great year in the market in 2022.
• The qualified charitable distribution is a little different from an RMD in that there’s a different age limit in place. Once you’re 70.5, you can take advantage of the QCD.

Susan Dziubinski: Hi, I’m Susan Dziubinski from Morningstar. We’re closing in on the fourth quarter, and that means some year-end deadlines are looming, including taking required minimum distributions from tax-deferred accounts. Joining me to discuss some positives for RMD takers this year is Christine Benz. Christine is Morningstar’s director of personal finance and retirement planning.

Hi, Christine. Thanks for being here.

Christine Benz: Hi, Susan. Great to see you.

SECURE 2.0 and RMDs

Dziubinski: One piece of good news this year relates to investors who are subject to RMDs in 2023. Let’s discuss specifically RMD age in the passage of legislation that we call Secure 2.0.

Benz: So, not so long ago, the RMD age was 70.5, which was kind of awkward. It moved out to 72, now we’re at age 73 as the starting age for required minimum distributions. That’s set to go all the way out to 75 eventually, so people may be able to push off that date at which they need to take those distributions. There are reasons that people really like to delay those RMDs. One is that it can push them into a higher tax bracket. It can cause some knock-on tax effects, and so pushing out of the date offers some tax-planning opportunities between retirement age, which, say, is mid-60s for many people, until that RMD age, that provides an opportunity to do IRA conversions in that period when your income tax rate may be at a low ebb relative to what it will be once those RMDs come online.

Dziubinski: Got it. Now, the types of accounts that are subject to RMDs are also changing, thanks to Secure 2.0. Walk us through some of those changes.

Benz: Right. So, Roth IRAs were always kind of a carve-out that they were not subject to required minimum distributions. One aspect of 2.0 is that now Roth 401(k)s are not subject to required minimum distributions. Prior to Secure 2.0, people would need to roll the assets into a Roth IRA to skirt RMDs. So, it’s a little bit of a convenience factor, especially for people who have a really good company retirement plan. They’ve been making those Roth 401(k) contributions, and they want to keep the assets there. Well, they won’t be subject to RMDs. They won’t be forced to do that rollover to a Roth IRA. That’s a good development. And I think it’s one that acknowledges that we’re seeing more and more people take advantage of those Roth 401(k) contributions and more companies adding that Roth 401(k) option versus just the traditional tax-deferred 401(k).

RMD Penalty Has Gone Down

Dziubinski: Got it. Another good piece of news potentially is that the penalty for missing an RMD has gone down. Now, it seems like this would be altogether good news. Is it altogether good news?

Benz: Well, tax experts I’ve talked to differ a little bit. So it had been this 50% penalty on any amount that you should have taken but didn’t take until it was, obviously a catastrophic penalty. It’s going to a 25% penalty. And if you’re able to prove that you didn’t do this on purpose, that it was sort of a mistake, you’re able to get that reduced down to 10%. What I hear from people who focus on tax planning is that they think that the IRS may actually be a little bit more serious about actually levying this penalty on people who do miss their RMDs. So, as always, it’s a date that you don’t want to monkey around with. You need to get that RMD out by Dec. 31 of the tax year. And I wouldn’t try to even think about these penalties because I think there potentially is a greater risk that people will actually need to pay them. In the past when we were at that 50% level, I had never even heard of anyone who actually did have to pay that penalty because it was fairly easy to prove that you weren’t just trying to skirt the distribution. Now it sounds like potentially that may be a little harder to get out of if you inadvertently miss the RMD.

Retirees May Have Lower RMDs in 2023

Dziubinski: Got it. You also point out that sort of from a practical standpoint, retirees may actually have lower RMDs in 2023 than they did in 2021 and 2022. Why is that?

Benz: This is kind of a bad news, good news story. The reason that many people might see lower RMDs is that we didn’t have such a great year in the market in 2022, right? We had a pretty big drop in the stock market, both U.S. and non-U.S. stocks. Bonds did not have a great year, either. So, many investors had declining balances at the end of 2022 versus where they were at in 2021. So, even though your RMDs nudge up a little bit as you age, many people, my guess is, would probably see lower RMDs as they’re calculating them in 2023 because they’re calculated on that year-end 2022 balance.

RMDs Can Improve Your Portfolio

Dziubinski: Another piece of good news, and this one is a little bit more evergreen than some of the others we’ve talked about, is the idea of using an RMD to improve your portfolio. Unpack that for us.

Benz: Right. This is something I really like to talk about, how to turn something that you don’t love into a little bit of a save, and I love the idea of being strategic about where you go for those required minimum distributions. Prune your highly appreciated securities. Use those to address your need to take an RMD. Take a good look at your portfolio and how it’s situated in terms of your target asset allocation. Use your RMD to get your portfolio back into balance. It’s a little bit of a freebie from a tax standpoint. The tax implications of your RMDs are the same. You might as well improve your portfolio a little bit while you’re at it.

Qualified Charitable Distribution

Dziubinski: And then lastly, the qualified charitable distribution is alive and well, and it’s even getting a little bit of an expansion because of Secure 2.0. Discuss what the QCD is and what’s changing.

Benz: The QCD is, for one thing, a little different from an RMD in that there’s a different age limit in place. So once you’re 70.5, you can take advantage of this qualified charitable distribution. And the basic idea is that you’re taking a component of your traditional tax-deferred account, and you are sending that to the charity or charities of your choice, up to $100,000. And there’s a tax benefit in doing so, and the funds that you send over to charity will not be subject to income tax. So, it’s a really nice strategy for the charitably inclined to consider. In fact, I would say people hear that $100,000 level, but you can be a small giver. You can be someone who gives $200 a year to charity and still take advantage of the QCD. It will tend to be more beneficial to you, certainly if you’re subject to RMDs, to take that money and do the direct transfer via QCD versus taking the money out of your IRA and writing a check to charity and then taking the deduction. People should take advantage of that.

What’s changing as a result of Secure 2.0 is that starting next year, the QCD will be indexed to inflation. So, we had been stuck at this $100,000 threshold, which tends to matter more to very high-income people in a position to give significant amounts, but that’ll get indexed to inflation. And then another change going into effect with Secure 2.0 is that taxpayers can now make a $50,000 one-time transfer to a charitable gift trust or a charitable remainder trust. So, it’s a QCD transfer that people who are larger givers should talk to their tax advisor, or financial advisor, or estate planning advisor to see if potentially that’s a worthwhile maneuver for them.

Dziubinski: Well, Christine, thank you for your time today because the clock is ticking on RMDs, so we really appreciate it.

Benz: Thank you so much, Susan.

Dziubinski: I’m Susan Dziubinski. Thanks for tuning in.

Watch “Why Higher Interest Rates May Mean Higher Taxes for Investors” for more from Christine Benz.