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New pension withdrawal rule can backfire in a costly way




A new law raising the age at which you must withdraw from your retirement accounts could have some unexpected and expensive consequences.

President Biden in December pushed the age at which retirees must begin taking required minimum distributions, or RMDs, from IRAs, 401(k)s and 403(b) plans to 73 this year, up from 72. That will increase higher to an age of 75 in 2033. The delay allows the investments to grow tax-free even longer and provides a window to get more tax-deferred dollars out.

But delaying RMDs can ultimately give you larger required annual withdrawals later in life, pushing your income into a higher tax bracket that can affect what you pay in taxes on or for your Medicare premiums. It can also become a tax headache for heirs.

“The more you push back the RMD age, the shorter the window to get all the money out,”[ads1]; Ed Slott, a New York and IRA expert, told Yahoo Finance. “And as you put more income into a shorter period of time, you and your beneficiaries will end up paying more in taxes overall.”

New pension withdrawal rule can backfire in a costly way

(Photo: Getty Creative)

RMD rules

You cannot keep funds in a retirement plan or a traditional IRA (including SEP and SIMPLE IRA) indefinitely. Finally, they must be withdrawn and taxed as ordinary income.

The new rule requires that once you turn 73, you have no choice but to start withdrawing money with an RMD, which is calculated by dividing your tax-deferred pension balance as of December 31 of the previous year by a life expectancy factor equal to your age in the IRS As life expectancy decreases, the percentage of your assets that must be withdrawn increases.

Under the new law, account holders who fail to take an RMD will face a 25% penalty on the amount not distributed, down from 50%. And if you fix it quickly, the penalty is reduced to 10%.

Fiscal consequences

If you have other taxable income in addition to your Social Security benefits, such as RMDs, it can affect how much your benefit can be taxed.

If you file a federal income tax return as an individual and your total income — your adjusted gross income, plus nontaxable interest you’ve earned on investments, plus your half — is between $25,000 and $34,000, you may have to pay income tax on up to 50% of your benefits. If you earn more than $34,000, up to 85% of your benefits can be taxable.

For those of you who file a joint return and have a total income between $32,000 and $44,000, you may have to pay income tax on up to 50% of your benefits. If your combined income is more than $44,000, up to 85% of your benefits may be taxable.

Also, if you delay withdrawing funds, the RMD based on your declining life expectancy will be larger, and if tax rates were to increase, you’ll end up paying a larger tax bill.

“The trade-off is that there could potentially be higher RMDs later, and guessing what future income tax rates will be is a pretty big game. If they’re higher in the future, they’d be worse off than taking them earlier,” says Eileen O’ Connor, a certified financial planner and co-founder of , to Yahoo Finance.

Slott had a similar opinion.

“People who don’t need the money think they’re saving something by delaying RMDs,” Slott said. “But in the long run, they could end up paying more in taxes by waiting until 73 and only taking minimum distributions.”

The potential impact on Medicare premiums

Deferring RMDs can also have consequences for your Medicare premiums. is based on your modified adjusted gross income, or MAGI. It is your total adjusted gross income plus tax-free interest.

Simply put, if you have a higher income, you may end up paying an additional premium amount for Medicare Part B and Medicare prescription drugs. Standard rates increase for individuals with a MAGI above $97,000 and for married couples with a MAGI of $194,000 or more.

Heirs may also feel the sting

“The RMD delay can create a more difficult planning environment if heirs are involved since they must exhaust inherited IRA distributions within 10 years,” O’Connor said.

The reality is that the more money you leave in a retirement account for your heirs to inherit, the greater the tax burden on them. They are likely to inherit when they are likely to be in the highest tax bracket of their lives during their peak earning years. As a result, they will end up paying more in taxes.

“And since it’s now 76.4, they can leave a lot of IRA assets to heirs,” O’Connor said.

Kerry is a senior reporter and columnist for Yahoo Finance. Follow her on Twitter @kerryhannon.

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