If you're kissing 70 1/2 and have tax-advantaged savings (other than a Roth individual retirement account), it's time to start thinking about this year's required minimum distributions, or RMDs.
RMDs are Uncle Sam's way of making sure your retirement planning isn't too frugal. The rules prevent you from keeping your retirement savings squirreled away without paying taxes. In Publication 590, the IRS offers not only a cure for insomnia but also tables that will tell you how much money -- based on your age and life expectancy -- you owe the government.
There aren't many ways around paying, but there are a few ways to mitigate the pain. Clarence Kehoe, executive partner at New York accounting firm Anchin, Block & Anchin, offers these five suggestions.
Marry a younger spouse. The standard Form 590 tables assumes a joint life expectancy with no more than 10 years' difference in ages between spouses. If one of the spouses is more than 10 years younger than the other and is the sole beneficiary of the plan, then the couple can use a different table that takes their age difference into account and lowers what they owe the IRS.
Convert to a Roth IRA. Roth IRAs aren't subject to any kind of distribution requirement, but when you convert, you'll have to pay taxes at your marginal income tax rate. "Roth conversions aren't for everybody," says Kehoe. People whose taxes don't decline much in retirement may find a conversion especially unattractive. But there are years -- even for high net worth earners -- when making a Roth conversion makes sense. "If you have a bad business year, and you generate a big loss, you can consider converting that year," Kehoe says.
For instance, if you and your spouse earned $50,000 between her job and your investments, but you lost $150,000 on your business, then you could convert $100,000 of pretax IRA money to your Roth IRA without tax consequences.
Keep on working. If you are not a 5 percent or more owner of a business and you continue to work past 70 1/2 -- and your 401(k) or Roth 401(k) plan permits it -- you may be exempt from RMDs until you finally quit.
Make a charitable contribution. You can contribute the same amount that you would have owed as an RMD to a qualified charity -- as long as it's $100,000 or less and directly rolled over to the qualified charity -- and this will satisfy your tax obligation. You don't get a charitable deduction, so it may not lower your taxes as much as you had hoped, but Kehoe says that it may keep you out of a higher tax bracket.
Delay your first year of paying an RMD. You are supposed to take your first RMD in the year when you reach 70 1/2, but you can delay it to April 1 of the next year. You'll owe a double distribution the second year, but if you think your personal tax rate may fall -- because you'll have quit working, for instance -- this approach may make sense.