The Lesser-Known Way You May Be Able to Get Out of Taking Your RMD

There are certain benefits to saving for retirement in a traditional IRA or 401(k) -- namely, the up-front tax break. And if you're in a higher tax bracket, a traditional retirement plan could make more sense for you than a Roth account.

But there's a big drawback that comes with having your savings in a traditional retirement account. Once you reach age 73 (or later, depending on your year of birth), you're forced to start taking required minimum distributions, or RMDs.

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The purpose behind RMDs is simple. The IRS gives you a tax break on the money you put into a traditional IRA or 401(k) plan. So it wants to make sure it gets that money back in the form of taxes on your retirement plan distributions.

Plus, the IRS doesn't want traditional IRAs or 401(k)s to serve as a means of wealthy people sheltering assets from taxes and using them for inheritance purpose. Put another way, if you have a traditional IRA or 401(k), the IRS wants you to use that money to fund your retirement. So it effectively forces you to take out a good chunk of your money later in life.

The problem with RMDs, of course, is that you lose the benefit of tax-deferred growth on your distributions, all the while adding to your tax liability. That's a harsh blow when you don't need the money.

But it's not a good idea to ignore your RMDs, either. If you don't take an RMD on schedule, you typically face a 25% penalty on the sum you don't remove.

For this reason, it's important to pay attention to RMD deadlines and remove those funds when you're supposed to. But one lesser-known rule may get out you out of taking your next RMD.

If you're still working, you may have some leeway

For some retirees, RMDs aren't an issue. The reason? They need that money to supplement their Social Security checks and have to take distributions no matter what.

But if you don't need your RMD, you may not be happy about having to pull funds out of your retirement account. And if you're still working at the time when you're on the hook for RMDs, you may not have to.

You may not realize it, but if you're allowed to delay RMDs from your current employer's 401(k) if you're still working. This assumes, however, that you do not own 5% or more of the business. If so, this rule won't apply.

Otherwise, you can delay RMDs from a 401(k) sponsored by your current employer. But to be very clear, this rule only applies to that specific 401(k).

Let's say you're working for a company that sponsors your 401(k), but you have a separate IRA and an old 401(k) on top of that. You'll still be on the hook for RMDs from your IRA and old 401(k) in this situation. It's only RMDs related to the 401(k) your current employer sponsors that you can get out of.

In a scenario like this, you'll be liable for RMDs on April 1 of the year after the year you retire. So say you're old enough to have to take RMDs now but can get out of them using the "still working" rule. If you retire this December, you'll have to take your first RMD from your current employer's 401(k) by April 1, 2026.

Know the rules

RMDs can be a pain in retirement from a tax standpoint. The good news, though, is that there are ways around them. Not only might you be able to use the loophole above, but qualified charitable distributions can eliminate the tax burden associated with RMDs.

Of course, if you want to make sure you won't have to worry about RMDs, you can try doing a Roth conversion ahead of retirement. But that may not make sense, depending on your tax bracket.

Otherwise, plan for your RMDs accordingly. If there's no reasonable way to get out of them, work with a tax professional to prepare for the extra income.

And remember, RMDs don't force you to spend your money. If you don't need it, don't waste it. Instead, put it into a taxable account and let it grow, or keep the cash in a high-yield savings account for unexpected bills. There's no need to blow your RMD simply because you'd rather the money stay put where it is.

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