IRS Provides Relief for Missed RMDs in 2021 or 2022
Episode 208 – IRS provides relief to individuals who inherited traditional IRAs in 2020 or after and failed to take required minimum distributions.
Transcript of Podcast Episode 208
Hello this is Bill Rainaldi, with another edition of Security Mutual’s SML Planning Minute. In today’s episode, IRS Provides Relief for Missed RMDs in 2021 or 2022.
As we all know, IRA owners can leave the account balances in their traditional IRAs, upon death, to their designated beneficiaries. These are known as inherited IRAs. For many years, designated beneficiaries could take required minimum distributions (“RMDs”) over their life expectancies. Spouses had the further option to take the IRA as their own and continue it. For young beneficiaries, that allowed for many years and potentially many decades of continued tax-deferred growth. This was known as the Stretch IRA concept used by many who did not need the inherited IRA assets for their own financial needs.
On December 20, 2019, the “Setting Every Community Up for Retirement Enhancement” Act (SECURE Act) was enacted into law. The SECURE Act eliminated the Stretch IRA concept. For years 2020 and later, the remaining account balance of an inherited IRA was required to be distributed to designated beneficiaries by December 31st of the 10th calendar year after the year of death, unless the designated beneficiary qualified as an “eligible designated beneficiary,” a new term created by the SECURE Act. This is commonly known as the 10-year rule. Eligible designated beneficiaries include the spouse, a disabled or chronically ill beneficiary and a beneficiary who is not more than 10 years younger than the decedent IRA owner. Eligible designated beneficiaries can continue to take distributions from inherited accounts over their life expectancies, subject to certain other rules that we won’t discuss here.
Since the passage of the SECURE Act, most tax professionals and indeed, the IRS itself, interpreted the 10-year rule to mean that when the participant died, the beneficiary did not need to take any distributions from the IRA until the end of the 10th year following the participant’s death. In the 2021 version of IRS Publication 590-B, the IRS advised: “The 10-year rule requires the IRA beneficiaries who are not taking life expectancy payments to withdraw the entire balance of the IRA by December 31 of the year containing the 10th anniversary of the owner’s death. For example, if the owner died in 2021, the beneficiary would have to fully distribute the IRA by December 31, 2031. The beneficiary is allowed, but not required, to take distributions prior to that date.”
On February 23, 2022, the IRS released proposed regulations containing a big surprise. The proposed regulations interpreted the 10-year rule as follows: If the plan participant died on or after her required beginning date (i.e., age 72), then under the 10-year rule, the designated beneficiary is required to take required minimum distributions in years one through 9, based on life expectancy, and the remaining account balance in year 10. If the plan participant died prior to her required beginning date, then under the 10-year rule, the designated beneficiary is not required to take RMDs but must take the account balance out by the end of year 10.
What that means is that the proposed regulations reinstall different rules dependent upon whether the IRA owner died before, or on or after, the required beginning date – something that most tax advisors thought the SECURE Act was trying to avoid. In addition, and perhaps more troublesome, some beneficiaries who may have inherited an IRA in 2020 or after, may have already missed a RMD distribution in 2021 or 2022 even though they didn’t know they had to take it. As a result, an excise tax equal to 50% of the RMD that was not distributed may be due.
Fortunately, on October 7, 2022, the IRS published Notice 2022-53. The Notice provides that final regulations will be coming soon and that the excise tax penalty for those who missed the 2021 or 2022 RMDs because of the most recent interpretation of the 10-year rule will be waived. Note, however, that the waiver does not affect lifetime RMDs for IRA owners who are unaffected by the 10-year rule. The waiver in the Notice also does not apply to eligible designated beneficiaries, who are not subject to the 10-year rule, nor beneficiaries who inherited the IRA before 2020.
For those taxpayers who thought they owed the excise tax and paid it, they could apply for a refund. For those who took distributions in 2021 and 2022, unfortunately, they cannot reverse that decision and must still pay income taxes on those distributions.
While the IRS has stated that it expects to publish final regulations soon, and that those regulations will be effective no earlier than 2023, additional changes to the rule may still occur. So, stay tuned! Distributions over the 10-year period may still be warranted, if for no other reason than to spread out the income tax burden and to manage income tax brackets.
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