Tax withholding from an IRA distribution
May I withhold 100% of the remaining 2022 RMD in December which will fill up to greater than 75% of the necessary yearly tax withholding and use a portion of 2023 RMD to pay the remainder in Jan. (by Jan. 17, 2023) to avoid an under-withholding penalty?
Permalink Submitted by Alan - IRA critic on Thu, 2022-10-20 22:45
Many brokerage IRA custodians limit withholding to 99%, which should work fine for the December distribution. But distributions you take after 12/31 will result in any withholding being credited to the tax year of the distribution. Therefore, your January withholding will be for 2023, not 2022. You may need to pay a 4th quarter estimate to reduce the underpayment penalty and/or use the annualized income installment method if most of your income will be in the 4th quarter of 2022.
Permalink Submitted by David Mertz on Thu, 2022-10-20 23:45
If making an estimated tax payment in early 2023 will not be sufficient to eliminate the tax underpayment penalty and you are not limited by the one-rollover-per-12-months limitation, in November or December you could take out more than your RMD in 2022 and have a sufficient amount of that distribution withheld for taxes to eliminate any tax underpayment penalty for 2022, then take some of your 2023 RMD in January and use that to complete a 60-day rollover of the amount distributed in late 2022 that was in excess of your 2022 RMD. You might also want to have some of your January distribution withheld for taxes to avoid a tax underpayment penalty for 2023.
Permalink Submitted by learner on Sun, 2022-10-23 00:43
Thank you, Alan and DMx, for the nice tip that IRA also provides a nice little knob for tax withholding. I am curious whether tax withholding by providers and estimated tax payment may be combined. Let’s assume that my tax amounts to $40,000. If I have $30,000 withheld for tax (by employer, ira, ss) by 12/31/2022, has not paid any estimated tax, and make a one-time estimated tax payment of the remaining $10,000 by 1/17/23, will I be subject to an under-withholding penalty?
Permalink Submitted by David Mertz on Sun, 2022-10-23 01:50
Ignoring any of the safe harbors that might apply, you would still have a penalty for Q1 through Q3 unless you annualize income and maybe tax payments as well to show that the tax withholding each of Q1, Q2 and Q3 was sufficient to cover the required amount for the quarter. By default, 1/4 of your income and tax withholding is allocated to each tax quarter, so the tax withholding alone by default would only cover 3/4 of the required payment for each of the first three tax quarters.