$1.5 million in your 401(k)? Here’s what your RMD taxes will look like — and the very best trick to lower them

Every dollar in a traditional 401(k) is pre-tax money. The government lets you defer the bill, but not entirely avoid it. So, if you’re on track to enter this exclusive club of 401(k) millionaires or already part of it, this aspect of your tax situation deserves special attention. Here’s what the RMDs for a hypothetical $1.5 million account could look like.

RMDs for millionaires

The way RMDs are calculated and implemented is complex. Complicating things further is the fact that an RMD isn’t a fixed amount; it changes every year based on your age and the amount of money left in the account.

The first step, according to the IRS, is to figure out how much all your combined tax-deferred accounts are worth as of December 31 of the previous year. Next, use the IRS Uniform Lifetime Table to determine your “distribution period.” A distribution period is the tax authorities’ estimate of your life expectancy based on age, so the calculation is focused on helping you completely draw down these balances within that time.

For someone aged 73, the distribution period is 26.5. If this person happens to have $1.5 million in their 401(k) plan, their first RMD would be $56,603 ($1.5 million ÷ 26.5). That’s a substantial amount of income for a single year. Depending on this retiree’s other sources of income, from Social Security to pensions, this amount could be enough to push them into a higher tax bracket.

And the upfront tax bill is only part of the challenge. For many millionaires, the RMDs can be enough to trigger extra surcharges for Medicare IRMAA (Income-Related Monthly Adjustment Amount) or make more of their Social Security benefits taxable due to higher income. Simply put, it’s a ticking time bomb of egregious expenses.

What can you do?

Perhaps the best way to mitigate this issue is to draw down your tax-deferred retirement accounts before RMD age.

But that’s easier said than done. Triggering capital gains and dealing with taxes upfront to avoid them later needs to be executed carefully for optimal savings.

Software and professional assistance can make executing this strategy a little easier. A platform like Empower can help reduce the stress of filing taxes by connecting you with a licensed tax professional who can support you from start to finish.

Unlike standalone tax software, Empower lets you manage your multiple retirement accounts in one dashboard and lets you file from the same platform.

Even if you’re not an Empower client, you can still file taxes through Empower by creating a free Empower Dashboard to get started.