Should You Take RMDs Early in the Year or Wait?
Planning for required minimum distributions (RMDs) can be complex and fact intensive. Any number of strategies can be used to benefit taxpayers, particularly in their pre-retirement years. It is, however, important to remember that planning opportunities do not disappear merely because an individual reaches their required beginning date and so becomes obligated to take RMDs. The amount of an individual's RMD is set in stone as of December 31 of the prior year—so there's no opportunity to reduce 2026 RMDs after December 31, 2025. That said, today's volatility in the equity markets means that many clients may be interested in learning whether their timing approach to taking RMDs can make a difference—in terms of taking the RMD early in the year or waiting until year-end. It's important that clients understand the pros and cons of the various approaches to RMD timing when developing a strategy for satisfying the IRS rules.
Waiting Until Year-End for RMDs
It's not uncommon for retirement account owners to wait until the end of the year to take their RMDs in one single lump sum. The primary benefit is that the funds remain invested for the year and the individual benefits from the added year of tax-deferred growth on the account balance.
This is particularly true if the client plans to take their RMD and reinvest the funds in a taxable account (i.e., if they don't need the funds to live on throughout the year).
Of course, there's always the possibility that the client's portfolio can underperform throughout the year, meaning they would have benefitted from withdrawing the funds earlier in the year. That said, markets do tend to rebound even in shaky times, meaning that most clients would benefit from allowing the funds to continue growing.
Tax-deferred compounding can result in significant increases for wealthy taxpayers with large account balances. For smaller investors, the benefits may not be as significant. It's also important to consider the fact that the RMD period is usually shorter than the client's accumulation period—and that if a retiree's portfolio is relatively conservative, the benefits of allowing the funds to remain in the tax-deferred account may not be as significant.
The primary downside of waiting until the year-end is that the very end of the year tends to be a busy time for everyone. Waiting until year-end creates the risk that the client will forget to take their RMD—or that the retirement plan sponsor won't have sufficient time to execute the transaction.
Considerations When Taking RMDs Early
Losing the extra year of tax-deferred growth is obviously a consideration when deciding to take RMDs first thing. However, if the client is taking the funds out to cover living expenses and has concerns about market performance for the year ahead, taking RMDs early can give them the peace of mind of knowing their funds aren't at risk.
In particularly bad market downturns, Congress may act to suspend RMD obligations for a year. Individuals who take their RMDs early in the year due to fears about market underperformance may have to go through the hassle of putting the funds back into their retirement account.
Clients who are planning to execute Roth conversions may benefit from taking their RMDs early in the year. Individuals are required to satisfy their RMD obligations before executing a Roth conversion.
Spacing Contributions Throughout the Year
Another option is to split the difference and the RMD in intervals throughout the year (whether monthly, quarterly, etc.). The primary risk associated with this strategy is the risk of miscalculating the RMD amount if the client is manually making the calculations.
Many custodians and providers will calculate the installment payments on the client's behalf. This reduces the risk of getting it wrong and incurring penalties.
Electing the installment method also reduces the risk of withdrawing the funds too early or too late in the year. The method ensures that the clients receive a range of prices for the assets they sell throughout the year.
Conclusion
A range of issues can be relevant in determining the most advantageous strategy for timing a client's RMDs. Timing the market can be incredibly difficult so it's important to evaluate all relevant considerations when determining the best strategy. The timing of a client's RMD doesn't impact the amount they must pay—but it's important to understand the pros and cons of each possible option.