How to Avoid the Required IRA Minimum Distribution

You don't get to hear much about how your retirement savings will be taken care of when you initially start to invest in a conventional 401k or IRA account. Rather, your focus is on how much to contribute, how to make your investments choices, how and when you change your investments and protect your balance from loss.

So indeed, you might be unfortunately reminded that you'll be required to make an annual IRA minimum distribution from these accounts upon reaching the specified age. There is no escape to the fact, as formulated by the government, that you have to start making your IRA minimum distributions from the money that you saved all through your life once you are 70½ years of age.

Now, the question arises: what if this money is not needed by you to meet your financial needs or obligations? Is there a possibility to continuously let your savings grow intact without having to withdraw the IRA RMD? There is unfortunately, no way to legally evade the withdrawal requirement. You do however have some alternatives, albeit with trade offs, to obviate the IRA minimum distribution requirements.

The first options is converting to a Roth IRA all or part of the retirement savings you hold in traditional IRAs. The distinction between Roth accounts and the traditional IRA is that since the Roth accounts get after-tax contributions (i.e. no deduction like regular IRAs), no income ax is owed to IRS and tax-free withdrawals can be made after retirement. It further follows that and there is no need to follow the IRA minimum distribution rules which do not apply to the Roth IRA.

Recall that we spoke of a trade off. the trade off for having a Roth IRA and avoiding the IRA minimum distributions is that you must pay tax on the portion of your IRA that you convert to a Roth IRA. Obviously, the option of converting your funds to a Roth retirement plan can't be availed by everybody as a means to evade yearly IRA RMD because they don't have the money to pay the Roth IRA conversi0n tax.

Let us assume you've been a fortunate enough to accumulate $300,000 in your conventional IRA. Let's also assume your tax bracket is 25%. Multiply the two numbers and you see that you have to pay $75,000 in federal income taxes plus state taxes, if applicable, in order to convert your traditional IRA to a Roth IRA. Once done however, your future withdrawals from your Roth IRA will always be tax-free and you will never have to take another withdrawal unless you desire to do so. There is a very minor restriction on withdrawing funds from you converted Roth IRA--while you may withdraw your principal at any time tax-free, the $300,000 you converted, you may not withdraw the earnings tax-free until five years after your conversion.

While not avoiding the IRA minimum distribution, if you are using other funds to donate to charity, you can use your IRA minimum distribution instead. The IRS permits you to use your required distribution is a direct donation to the charities of your choice by way of a qualified charitable distribution. It is always a brilliant move to use IRA funds for charitable donations because IRA money you don't use or give to charity will be left to heirs. Heirs however would rather have non-IRA money as inheritance. The reason is simple. A dollar of IRA inheritance is only worth $.70 because heirs will have to pay the income tax on the IRA money, the tax that you did not pay. Heirs would rather have money that you had already paid tax on such as money in a savings account or invested in securities. Charities however are happy to have your IRA money since they don't pay any income tax.