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Q&A: "I Must Begin My Required Minimum Distributions (RMDs) This Year...Should I Take It Equally From All Three Funds Or All From The Income Fund?"

Investment Retirement Income Tax

Question and background: 

I must begin my RMD distributions this year. I have $700,000 in my IRA (traditional). It is divided into 3 Fidelity funds: FFFAX $400,000 (Income Fund), FFFCX $200,000 a 2010 Fund, FLPSX $105,000 (Low Price). Should I take the distribution equally from all 3 or take 100% from the income fund to let the others "grow"?

I really don't need the distributions for living expenses as I have a good defined benefit pension plan & Social Security along with $400,000 in a brokerage account (7 stocks), $100,000 in a deferred annuity paying 4% annually. My distribution will be about $23,000 as I'm married w/my spouse more than 10 years younger than me. 


You're nicely set-up financially...congratulations! Here are a couple of approaches: 

1. Asset Location & Tax Issues

Instead of taking a cash distribution to satisfy your Required Minimum Distribution (RMD), consider an "in-kind" distribution. This is where you transfer (intact) sufficient shares of one your investments out of your IRA and into your regular brokerage account. The value of the distribution is reported to the IRS and you pay taxes on that. 

Why would you do this? Two reasons: (a) you believe that equities are likely to continue growing and don't want to sell what you have, and (b) you want to shift stock funds out of your IRA and into your brokerage account where capital gains treatment will be more favorable.

On this latter point, "asset location" is important in tax-managing your portfolio. Bond funds and the like generate interest income, which is highly-taxed as ordinary income. Stock funds offer the potential for capital gain (or capital loss), which is taxed at a more favorable rate than interest income. Hence it usually makes sense to keep your taxable interest-generating investments inside your IRA and your capital gain-generating investments in your regular brokerage account. 

2. Lock-in Recent Gains

This approach acknowledges that stocks have been on a tear the last five years and that's unlikely to persist. It may be a good time to lock-in some of those gains by taking a cash RMD entirely from your stock fund (FLPSX). 

Hope this helps. Feel free to contact me directly if you'd like to discuss your situation in more detail. All the best!