An employee retires in or after the year he turns 72.
The employee wants to roll his 401(k) funds to an IRA.
Does an RMD have to be taken before funds roll over?
Year of retirement RMDs from 401(k) plans are tricky. This is because required minimum distributions typically start on April 1 following the age of 72. For someone using the still-working exception, they start on April 1, following the year of retirement. That April 1 is the employee’s required beginning date (RBD).
If the rollover takes place before the RBD, it would make sense that no RMD should be required before the rollover. But in the case of many IRA and workplace plan rules, what makes sense isn’t always the correct answer. The correct answer is that an RMD from a 401(k) must be taken first and only what’s left can be rolled over.
How can that be?
The first funds distributed in a year in which an RMD is required, are considered part of the RMD. This is also known as the “first-dollars-out rule”. Second, the first year in which an RMD is required is not the year of the RBD – it’s the year of retirement (that is, the year before the year of the RBD). Third, RMDs can never roll over. Putting all three rules together means that the first dollars received in the year of retirement on or after age 72 are part of the RMD and aren’t eligible for rollover.
If the RMD rolls over, it is considered an excess contribution. To avoid penalty, excess contributions – along with earnings or losses attributable to the extra amount – must be returned by October 15, following the year of the contribution.
Example:
Kaitlin works for Fourth Fifth National Bank and participates in its 401(k) plan. Kaitlin uses the still-working exception to delay RMDs beyond age 72. In 2022 at age 73, Kaitlin retires and elects to roll over her 401(k) balance of $400,000 to an IRA. She is aware that her RBD is not until April 1, 2023. She decides to rolls over the entire $400,000 (including her 2022 401(k) RMD, which we assume to be $15,000) to the IRA. Since the $15,000 was not eligible for rollover, it is now an excess contribution in the IRA. Kaitlin can fix the error without penalty by withdrawing $15,000, plus or minus earnings or losses on her IRA attributable to the $15,000, from the IRA by October 16, 2023.
Can Kaitlin avoid taking the 2022 RMD from her 401(k) in 2022? Yes by delaying her 401(k) distribution/rollover until 2023. But she would then have to take two RMDs – the 2022 RMD and the 2023 RMD – before rolling over the rest of her funds.
By Ian Berger, JD
IRA Analyst
