New Rules for Required Minimum Distributions
With the passing of the SECURE Act in 2019, the rules around Required Minimum Distributions (RMDs) for defined contribution plans and Individual Retirement Accounts (IRA) were affected. Now the rules will be changing once again with the recent passage of the SECURE 2.0 Act, the second round of retirement plan reform.
Shedding Light on a Complex Topic
Effective in 2023, the SECURE 2.0 Act raises the age at which individuals must begin taking RMDs from their retirement accounts from age 72 to age 73. The age is raised again to 75 starting on January 1, 2033. The penalty for failure to take an RMD is reduced from 50% to 25%. The penalty is further reduced to 10% if a failure is corrected within a timely manner.
The changing RMD rules are affecting Qualified Charitable Distributions and Inherited IRAs.
It’s important to understand the latest rules so participants can avoid a costly penalty for a missed RMD and plan sponsors can adequately address compliance concerns when processing RMDs.
Elimination of the “Stretch” IRA and 401(k)
The “stretch” IRA and 401(k) strategy allowed a non-spouse beneficiary of an inherited IRA or 401(k), and other defined contribution plans, to stretch the distributions and tax payments from the account over the course of their lifetime. This strategy provided beneficiaries with long-term tax-advantaged growth as well as flexibility for estate planning.
The SECURE Act eliminated this strategy and replaced it with the 10-year rule.
Here are a few important items to keep in mind:
- Non-spouse beneficiaries are now required to take distributions from the retirement account within 10 years of the death of the original account holder
- If the account isn’t emptied within 10 years, any remaining assets may be subject to a 25% penalty.
There is an exception to the 10-year rule – the rule is treated as satisfied if distributions are paid over the course of a beneficiary’s lifetime if the beneficiary is an eligible designated beneficiary.
An eligible designated beneficiary must always be a person, not an entity, and must fit into one the following 5 categories:
- Participant’s or IRA owner’s surviving spouse
- Participant’s or IRA owner’s child who is less than 21 years of age – once age 21, the 10-year rule will apply
- A disabled individual
- A chronically ill individual
- Any other individual not more than 10 years younger than the decedent
Finding Relief in IRS Notice 2022-53
In February of 2022, the IRS issued proposed regulations incorporating the SECURE Act’s RMD rules which have caused inadvertent confusion specifically around the annual RMD requirements where the participant passes away after they started taking their annual RMDs. It seemed beneficiaries in this situation assumed they could withdraw as much or as little from their inherited retirement accounts in the first nine years as long as 100% of the account was distributed in the 10th year. This assumption was incorrect. When participants pass away after they start taking the required minimum distributions, their beneficiaries are required to continue the required minimum distributions each year. They must distribute the account within 10 years after the death of the participant, unless they are an eligible designated beneficiary (described above).
This resulted in many plan sponsors and beneficiaries feeling blindsided by this late announcement. The recent release of IRS Notice 2022-53 brings with it clarity about the issue and relief to plan sponsors and designated beneficiaries.
Here are a few highlights:
- Defined contribution plans that failed to make 2021 or 2022 life expectancy payments to designated beneficiaries who were required to continue the RMDs, but failed to do so, will not be treated as having failed to satisfy the RMD requirements.
- The 50% penalty is waived for RMDs not taken in 2021 and 2022 for beneficiaries who were required to continue the RMDs but failed to do so.
- If the 50% penalty was paid, the taxpayer can request a refund of that excise tax.
- This notice indicates that the IRS plans to issue final regulations related to RMDs that will apply no earlier than the 2023 distribution calendar year.
Qualified Charitable Distributions from IRAs
A qualified charitable distribution (QCD) is a direct transfer of funds in an Individual Retirement Account (IRA) to a qualified 501(c)(3) institution. This type of distribution can be counted towards satisfying the RMD requirement for the year. However, unlike regular RMDs where the age was increased to 72, the age of eligibility remains at 70½ for QCDs whereby an individual may transfer up to $100,000 per year to qualified charities.
Included below are a few changes the SECURE 2.0 will have on QCDs (effective in the 2023 tax year):
- The annual IRA QCD limit of $100,000 will be indexed for inflation.
- A one-time QCD distribution to a charitable gift annuity, charitable remainder unitrust, or charitable remainder annuity trust of up to $50,000 would be allowed.
What to Expect Moving Forward?
Retirement account rules and regulations are complex and can be difficult to understand especially with the recent changes implemented by the SECURE Act and now the SECURE 2.0 Act. Your trusted ABG Southwest relationship manager is available to help answer any questions you may have regarding the current RMD rules, and any impact the new legislation may have on these rules moving forward. Contact us.