This April 1 Retirement Trap Could Cost You a 50% Tax Penalty

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Every American knows about the April 15 deadline for getting your federal income tax return filed. But most aren't aware of an April 1 deadline that could cost up to 50 percent of your money in penalties from the Internal Revenue Service.

Fortunately, this draconian penalty only applies to those who turned age 70½ and have either individual retirement accounts or employer-sponsored retirement plan accounts like 401(k)s.

Required Minimum Distributions and Your Retirement Account

IRAs, 401(k)s and other retirement accounts let you save for retirement on a tax-deferred basis. But lawmakers wanted to impose limits on how long you could take advantage of those tax benefits.

In order to force people to take distributions from the IRAs and 401(k)s -- and therefore pay income tax on the amount they withdrew -- the laws governing retirement accounts require retirees to start taking withdrawals once they turn 70½. The one exception applies to workplace retirement plans: If you still work after 70½ you don't have to take 401(k) or other employer-plan distributions.

The withdrawal amount is based on your age, with the IRS using life expectancy tables to determine how much you have to withdraw. For the 2 million who turned 70½ after July 1 last year, the IRS-calculated life expectancy is 27.4 years, and so the required minimum distribution from your account is 100 percent divided by 27.4 -- or about 3.65 percent of your total retirement-account balance as of Dec. 31, 2012.

In most years, retirees have a Dec. 31 deadline to take required minimum distributions. But for your initial required minimum distribution, you get an extension to April 1 of the following year. Miss that deadline, and the IRS imposes a 50 percent penalty on the amount you should have withdrawn.

Unfortunately, many people take full advantage of that extension -- and some don't even realize that the deadline is there. According to figures from Fidelity, 40 percent of those required to take their first required minimum distribution in 2013 hadn't taken the full amount by year-end, and 36 percent of that group hadn't taken any distribution.

It can be hard to keep track of all your financial deadlines, but if you turned 70½ in 2013, the April 1 deadline is one you can't afford to miss.

You can follow Motley Fool contributor Dan Caplinger on Twitter @DanCaplinger or on Google+.

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7 Comments

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kenno2012

Diebold Corp. mioditying the Vote one pricinct at a time....wake up Amerika your vote is an illusion!

March 11 2014 at 5:16 AM Report abuse rate up rate down Reply
betty_brock

Obamacare is going to put us taxpayers in the poor house so we may as well give up and go on welfare.

March 10 2014 at 8:51 PM Report abuse rate up rate down Reply
Leonard Shaffer

If you have an IRA or 401k or 403b and do not know about the RMD then u deserve to pay a 50% penalty. There is nothing like an expensive wake up call to get ones attention

March 10 2014 at 8:05 PM Report abuse -1 rate up rate down Reply
j79xjames

For other important dates to be aware of starting at age 50 check out the related post on the blog on the site Retirement And Good Living. There are many dates between 50 and 70.5 that are significant. The site also provides information on many other topics including investing, LTC insurance, retirement plans, health, retirement locations, travel, part time jobs, volunteering and more.

March 10 2014 at 6:32 PM Report abuse rate up rate down Reply
phyllis

i won't be 701/2 until march 2015 i was told i had to take first dist in january. does that sound right. drives me crazy.

March 10 2014 at 6:08 PM Report abuse rate up rate down Reply
slickspin

You can if your disability is 100%.

March 10 2014 at 5:20 PM Report abuse rate up rate down Reply
johnhen56

QUESTION FOR ANYONE?? if someone is younger than 59 1/2 but is no longer employed due to disability can that person take withdrawals from their 401k without penalities or do they have to wait until they are 59 1/2 (provided of course they survive their disability that long)

March 10 2014 at 4:10 PM Report abuse rate up rate down Reply
1 reply to johnhen56's comment
marcanagnos

I think you can find that info on the IRS web site. I think I read that you can, but I'm not sure. Best to ask the experts.


MARC

March 11 2014 at 3:49 AM Report abuse rate up rate down Reply