RMD and est taxes

Submitted by Be Hwong on Tue, 2020-12-29 18:03

Since withheld taxes from an RMD are considered distributed evenly over the tax year, is there any benefit to doing an
RMD withdrawal in 2020 (with most of it as a withholding) instead of paying the estimated quarterly tax in Jan 2021?
On the one hand, it will help even out tax payments which appear to incur an estimated tax penalty of $1000 but on the other hand I will now owe about 24% additional taxes for the RMD. There’s also the question of what is the payment schedule
for 2020 since tax due date was moved to July.



Submitted by David Mertz on Tue, 2020-12-29 19:20

  • Yes, having taxes withheld on a distribution in Q4 can be more beneficial than paying the same amount as a Q4 estimated tax payment for the reason that you indicated; it can partially or fully make up for underpayment in the earlier quarters whereas a Q4 estimated tax payment cannot.  The only difference this year is that the deadlines for the payment of taxes for Q1 and Q2 were moved to July 15, but you still could have underpaid.
  • One strategy to compensate for substantial underpayment in earlier quarters is to take an IRA distribution late in the year, allocate all or nearly all of it to tax withholding, then using other funds to complete a rollover or (Roth conversion if you might be subject to the one-rollover-per-12-months limitation) of the entire gross amount of the distribution.  This manufactures tax withholding to take the place of the potentially less beneficial estimated tax payment.

Submitted by Be Hwong on Wed, 2020-12-30 18:36

Thank you for confirming that taking an RMD in Q4 may be better than paying the Q4 estimated taxes.But since no RMDs are req’d in 2020 due to the CARES Act, does it make sense to do the RMD if it will incur taxes that exceed the underpayment penalty?

Submitted by David Mertz on Wed, 2020-12-30 19:42

Does it make sense?  That’s kind of a personal decision.  You (or your heirs) will eventually pay ordinary income tax on the money when distributed from the IRA at some point.  If you make a distribution that you use for tax withholding and do not replace it by using other money to complete the rollover or by doing a Roth conversion, you could invest the money that you didn’t use to make an estimated tax payment by investing it in a capital investment where gains will be subject to long-term capital gains rates rather than ordinary income tax rates and which will get a step-up in basis if the capital investment passes to your heirs.  Because growth in the traditional IRA will eventually be subject to ordinary income tax, it’s not necessarily the best choice to defer income from the IRA as long as possible, even if you can.

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