Q. One issue that seems to be neglected is the impact of Required Minimum Distributions (RMDs) on the survival prospects of IRA accounts. This isn't a trivial problem. When you withdraw the RMD you must pay a tax so there is less income. Second, any money not spent may be invested but its earnings are no longer tax deferred.

Has anyone studied this issue? I am not sure Congress took this into account when it passed the law creating the RMD--- the effect of the RMD could be to throw more elderly into the welfare system.

---D.M., by email from Richardson, TX

  

A. When it comes to national problems, I'd put this one pretty low on the list. The first thing to remember is that it's a great problem to have--- a tax bill because you have too much money and you're living too long. When I rule the universe, I will strive to make this a universal problem.

The primary problem we face is that most Americans have relatively small amounts in their qualified plans. They are unlikely to experience a major change in their tax burden when they start making required minimum withdrawals. More important, most people will want (or need) to make withdrawals that exceed the RMD amounts. They won't be paying taxes prematurely.

The biggest issue those with large amounts of money in qualified plans face isn't the required withdrawals. It is the possible escalation of their tax bill because they trigger the taxation of Social Security benefits. This can reduce $100 inside a plan into as little as $53.75 of after-tax purchasing power. Another problem is that required withdrawals may push them from the 10 percent tax rate to the 15 percent rate, or from the 15 percent rate to the 25 percent rate.

Singles and couples now use the same uniform table to calculate their RMD unless there is an age difference between two spouses of 10 years or more. The basic table calls for an initial distribution rate based on 27.4 years. That calculates to a distribution of only 3.65 percent. Each year after age 70 the RMD increases. It reaches 4 percent at age 73, 5 percent at 79, 6 percent at 83, and 7 percent at 86. It exceeds 10 percent at 93.

If we were immortal, this would be a problem. It would be a problem because most research shows that "safe" withdrawal rates are around 4 to 5 percent. The higher the withdrawal rate, the greater the odds a portfolio exhausted by withdrawals--- the returns simply won't keep up.

In fact, the RMD rates are always substantially less than life expectancy. At 70, for instance, a single person can expect to live 14.7 years but has a withdrawal rate based on 27.4 years. A couple has a joint life expectancy (meaning one of them will live this long) of 21.8 years. In effect, there is a substantial margin of safety in the RMDs.  

An 80-year-old couple has a joint expectancy of 13.8 years but an RMD based on 18.7 years. At 90, the margin of safety is still there: A 90-year-old couple has a joint expectancy of 7.8 years but an RMD based on 11.4 years.

Skeptics should consider the far extreme: a 100-year-old couple has a joint expectancy of 4.2 years and an RMD of 6.3 years.

In the table below I've combined a variety of figures: the RMD by year and the percent distribution of qualified plan that translates to, U.S. life expectancy by age, joint and single, and the percentage of people surviving from age 70.

It's a rude fact, but none of us will get out of here alive. If you are alive at 70, 25 percent of the people born in the same year are already dead. As the survivors march forward, 20 percent don't survive the next 7 years. Fewer than half survive to 85.   Only one in ten makes it past 95.

  

Portfolio Survival vs. Personal Survival

  This table shows both single and joint life expectancy at different ages and the percentage of individuals surviving from 70 to various ages. It shows that required withdrawal rates are significantly lower than expectancy throughout our lives.

Age

Distribution Period Rate in % Joint Expectancy Single Life Expectancy %Surviving

70

27.4

3.65%

21.8

14.7

100.0

75

22.9

4.37%

17.6

11.5

86.7

80

18.7

5.35%

13.8

8.8

69.3

85

14.8

6.76%

10.5

6.5

48.2

90

11.4

8.77%

7.8

4.8

26.6

95

8.6

11.63%

5.8

3.6

10.7

100

6.3

15.87%

4.2

2.7

2.8

Source: IRS, National Vital Statistics, 2002