Possible tax penalty if I take entire RMD right now

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tominsc
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Possible tax penalty if I take entire RMD right now

Post by tominsc »

I understand RMDs. My wife and I are both mid 70s. We also pay estimated fed and state taxes throughout the year rather than have anything withheld when we take an RMD. We have no problems doing this and I’m not asking if we should.

My question is about the tax aspects of the timing of taking either of our RMDs. I am aware that if you pay est tax and your taxable income does not come in at a roughly even rate throughout the year, it’s possible that if you get a big chunk of taxable income late in the year you could end up underpaying est taxes in the early quarters and get hit with an underpayment penalty when you file the next April, simply because with the uneven income pattern you didn’t “pay as you go” like the IRS insists. I am also aware that filing a Form 2210 can be a way to avoid such a penalty.

Is there any tax underpayment risk if I take our entire RMD right now, rather than spreading it out over the entire year? As long as I know how much our RMDs are and I figure our est tax using those amounts, if our income pattern does NOT change over the year, taking the whole RMD early shouldn’t affect the est tax payments at all. Right?

Thx.
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retired@50
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Re: Possible tax penalty if I take entire RMD right now

Post by retired@50 »

Following.
This is one person's opinion. Nothing more.
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CABob
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Re: Possible tax penalty if I take entire RMD right now

Post by CABob »

Perhaps you should reconsider having taxes withheld from your withdrawal. Withholdings are considered to be paid throughout the year regardless of when the withdrawal is made.
Bob
tomd37
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Re: Possible tax penalty if I take entire RMD right now

Post by tomd37 »

Tominsc - On an associated matter, are you considering a qualified charitable distribution (QCD) in your particular situation? If so I believe you might run into tax issues if you take your entire RMD early in the year and then later decide that you want to make a QCD. I believe if you take the entire RMD first any further distribution is taxable also. Maybe someone with a better understanding or better ability to express the situation could comment.
Tom D.
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celia
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Re: Possible tax penalty if I take entire RMD right now

Post by celia »

The way you pay your taxes is not dependent on the income source. But the taxes owed are supposed to be paid for the same quarter in which the income was received. If half your income for the year is realized in the first quarter, half your taxes are due for the first quarter. If half your income is realized in the last quarter, the first three quarters should have paid half the taxes cumulatively and half the taxes are due for the 4th quarter. Form 2210 tracks this for you and I suppose you could fill part of it out each quarter instead of waiting until April 15 the following year.
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celia
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Re: Possible tax penalty if I take entire RMD right now

Post by celia »

tomd37 wrote: Sun Jan 03, 2021 2:39 pm Tominsc - On an associated matter, are you considering a qualified charitable distribution (QCD) in your particular situation? If so I believe you might run into tax issues if you take your entire RMD early in the year and then later decide that you want to make a QCD. I believe if you take the entire RMD first any further distribution is taxable also. Maybe someone with a better understanding or better ability to express the situation could comment.
A QCD is always tax-free. It can be part/all of your RMD or not. It is considered part of your RMD if it is taken out before the RMD has been satisfied for the year.
A dollar in Roth is worth more than a dollar in a taxable account. A dollar in taxable is worth more than a dollar in a tax-deferred account.
tomd37
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Re: Possible tax penalty if I take entire RMD right now

Post by tomd37 »

That is where I think there might be an issue Celia. I agree the QCD is part of the RMD, but if the full RMD is taken out tomorrow and then a month from tomorrow I want to take a QCD, that last amount (QCD) was taken out after my RMD has been satisfied and I thought it was then taxable. Heretofore my understanding was you had to do your QCD before the total amount of your RMD was taken out. :?

Maybe this is all in the wording on both our parts!
Tom D.
Topic Author
tominsc
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Re: Possible tax penalty if I take entire RMD right now

Post by tominsc »

Thank you, one and all! These are good comments. The kind of dialogue I wanted to start and benefit from.

I'll try to answer them all in one reply, and I'll try to keep it clear who I'm replying to.

With respect to deciding to take withholding along the way, no offense but that's a nonstarter for me, for two reasons. #1) In the last 9 years of my working career I was an independent contractor getting paid on an irregular pattern by payers who would not withhold even if i had asked them to. So I got used to est taxes and I think this is an example of "if it ain't broke..." I'm a stubborn old fart :annoyed and I'm just not going to change my ways. #2) It sticks in my craw to give the Feds ANY more ADVANCE use of MY money than I have to! So, no withholding. Est taxes are fine.

The comments about QCD are spot on! Thanks for reminding me of that. I do intend to do QCDs. In fact, I already know how much and when, and it'll be regularly throughout the year. So I do have to be careful NOT to take the entire RMD now or I'll screw up my plans for QCDs big time!

Celia's comment about paying as I incur income is the sort of "pay as you go" idea I had in mind in my OP, but she says it much better.

All things considered, I think I do need to plan ahead for a sensible pattern for when I take out parts of my RMD throughout the year. Taking it all now, or even taking all of it that I had figured might leave enough behind for the QCDs I'm thinking about, seems like not the most sensible strategy.

The last comment I'd make is about Form 2210, although I might be wrong. I did use it one time years ago, and I found it quite cumbersome to fill out. Not impossible, of course, but certainly not straightforward. I've never seen a need to go back and do it again, but I do think I recall at least checking TaxCut (which I've used successfully for decades and will NOT willingly give up [see above, re "stubborn old fart"]) and I don't think TC includes the Form 2210. So if I did have to use it, it seems as if I'd have to do it long hand and that'd force me, I think, to give up e-filing, and that's another of those old fart things I won't willingly forego!

Thanks again and keep the comments coming, folks!

Tom (aka stubborn old fart! ;-)
sport
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Re: Possible tax penalty if I take entire RMD right now

Post by sport »

tomd37 wrote: Sun Jan 03, 2021 3:28 pm That is where I think there might be an issue Celia. I agree the QCD is part of the RMD, but if the full RMD is taken out tomorrow and then a month from tomorrow I want to take a QCD, that last amount (QCD) was taken out after my RMD has been satisfied and I thought it was then taxable. Heretofore my understanding was you had to do your QCD before the total amount of your RMD was taken out. :?

Maybe this is all in the wording on both our parts!
Tom, If you make a QCD after completion of your RMD, it is not taxable. However, it does not reduce the taxes on your RMD. If you want the QCD to reduce your taxes, you have to make it as part of the RMD, or in other words, before the RMD is complete.
Topic Author
tominsc
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Re: Possible tax penalty if I take entire RMD right now

Post by tominsc »

Right, sport. Thx for reminding me. See also my global reply to all earlier posts, which I was sending as you were sending yours! We're on the same page, I'm sure!
Chip
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Re: Possible tax penalty if I take entire RMD right now

Post by Chip »

tominsc wrote: Sun Jan 03, 2021 11:07 am Is there any tax underpayment risk if I take our entire RMD right now, rather than spreading it out over the entire year? As long as I know how much our RMDs are and I figure our est tax using those amounts, if our income pattern does NOT change over the year, taking the whole RMD early shouldn’t affect the est tax payments at all. Right?
Right.

If you make four equal (or front-loaded) estimated payments that are sufficient for your total tax liability you won't be subject to a penalty.

Sufficient to me means ONE of the following:
1. You owe $1000 or less when you file your return.
2. Your estimated payments are at least 90% of this year's total tax liability.
3. Your estimated payments are at least as much as last year's tax liability (110% of last year for higher income - 150k?)

So if you front-load your RMD, correctly estimate your other income, and make sufficient equal estimated payments there will be no penalty.

You might want to look at Form 2210 and see how the penalty calculations work for equal estimated payments.

Note that if you have state tax your state will probably have different rules and safe harbors.

Personally, when I start RMDs I will be withholding rather than using estimated payments as mistakes can be fixed with a year-end distribution that is withheld in its entirety.
tomd37
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Re: Possible tax penalty if I take entire RMD right now

Post by tomd37 »

Sport - That is what I was thinking about, but could not express myself correctly. Thanks.
Tom D.
BabaWawa
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Re: Possible tax penalty if I take entire RMD right now

Post by BabaWawa »

Not in RMD territory yet. But making Roth conversions up to the top of 12% bracket. I plan on making my conversion early this year. Although maybe not ideal, I will make another distribution at year end in amount I want to have withheld for federal taxes. That way it counts as though it was paid in throughout the year with no penalties.
Gill
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Re: Possible tax penalty if I take entire RMD right now

Post by Gill »

BabaWawa wrote: Sun Jan 03, 2021 5:25 pm Not in RMD territory yet. But making Roth conversions up to the top of 12% bracket. I plan on making my conversion early this year. Although maybe not ideal, I will make another distribution at year end in amount I want to have withheld for federal taxes. That way it counts as though it was paid in throughout the year with no penalties.
...but you are withdrawing from your IRA prematurely.
Gill
Cost basis is redundant. One has a basis in an investment | One advises and gives advice | One should follow the principle of investing one's principal
tomd37
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Re: Possible tax penalty if I take entire RMD right now

Post by tomd37 »

OP Tom,
Based on your comments on RMDs and QCDs you are over age 70.5. We are in our mid-80s with social security benefits, a military pension, and RMDs for both of us. So as to keep federal tax withholding constant and not be subject to error when attempting to modify them, I have had a certain amount of federal tax withholding added to my pension for the past 39 years. We also have a steady flat percentage of federal tax withheld from our SS benefits. So every year the only variable withholding is that for our RMDs.

Our income from all the above and our dividend and interest income and capital gain distributions is very predictable from year to year. So I have just completed an estimate of what our AGI will be for 2021 and when we do my final RMD for this year around November 2021 I will withhold enough federal tax on that RMD to cover the shortfall so that I owe the government about $250 at the end of 2021. Better to owe than have a refund coming so as not to loan them anything and also not having any refund held up if someone were to steal one of our SSNs and file a fraudulent return. I did this same process last January and came within $75 of what I actually owe coming up when we file for 2020.

Had a close friend who seven years ago had his wife's SSN stolen and used on a fraudulent return by someone else. This couple's rather significant refund was held up for more than eight months. :x
Tom D.
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GerryL
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Re: Possible tax penalty if I take entire RMD right now

Post by GerryL »

OP,
Here is what I am doing since the start of SS and RMDs my income has sort of evened out: taking advantage of safe harbor rules and "withholding once is as good as 12 times" reality.
Early in the year I execute QCDs. Second half of the year (actually Q4) I take the rest of the RMD, setting state and fed withholding to cover safe harbor.

I suppose I could set up est tax payments based on safe harbor, but I like this technique because I can keep the money in my account and only need to worry about one date. This is convenient when I am traveling -- which I hope to do again someday.

But as to your question, taking it all at once and paying taxes quarterly does not appear to be something to make the IRS cranky.
BabaWawa
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Re: Possible tax penalty if I take entire RMD right now

Post by BabaWawa »

Gill wrote: Sun Jan 03, 2021 5:28 pm
BabaWawa wrote: Sun Jan 03, 2021 5:25 pm Not in RMD territory yet. But making Roth conversions up to the top of 12% bracket. I plan on making my conversion early this year. Although maybe not ideal, I will make another distribution at year end in amount I want to have withheld for federal taxes. That way it counts as though it was paid in throughout the year with no penalties.
...but you are withdrawing from your IRA prematurely.
Gill
Well, at age 66 it doesn't feel that premature. 😉
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