RMD proposed regulations provide some clarity
The IRS issues some expected and not-so-expected guidance in its dense 275-page release.
By Mike Giangrande, J.D., LL.M.
Last month, we began the discussion of the IRS’s proposed regulations issued to clarify retirement account changes made by the SECURE Act. See “RMD proposed regulations raise major questions” in the April 2022 edition of Spidell’s Federal Taxletter®.
In that article, we mainly focused on the IRS’s surprising position that if the owner of a retirement account died after their required beginning date for taking distributions, then their beneficiaries who are subject to the SECURE Act’s new 10-year distribution rule must also take annual RMDs before distributing the entire account by the end of the year containing the 10th anniversary of the original account owner’s date of death.
In this article, we will address additional provisions of the proposed regulations that incorporate other SECURE Act retirement account changes. In the next issue of Spidell’s Federal Taxletter®, we will discuss how these regulations apply to accounts inherited through trusts.
Quick Law: SECURE Act RMD rulesUnder the SECURE Act, beneficiaries of defined contribution plans, including IRAs and some government plans of taxpayers who die after December 31, 2019, must distribute the entirety of their inherited account by the end of the year that contains the 10th anniversary of the account owner’s date of death unless the beneficiary is one of the following:1
The Code and regulations refer to these five beneficiary types collectively as “eligible designated beneficiaries.” These eligible designated beneficiaries, other than minor children, continue to apply the pre-SECURE Act rules to the retirement accounts they inherited, which generally allow them to take RMDs over either their own life expectancy or the life expectancy of the decedent. Minor children of the decedent take distributions based on their life expectancy until reaching the age of majority (defined as age 21 in the proposed regulations). Once they reach age 21, the remaining balance of the inherited IRA must be distributed within 10 years.2 |
Death of beneficiary
Retirement accounts that are inherited from a person who dies after December 31, 2019, are generally subject to the SECURE Act’s new inherited retirement account rules. Certain governmental plans and plans negotiated in collective bargaining agreements are subject to these new rules for account owners who die after December 31, 2021.
The proposed regulations provide various scenarios to illustrate how the rules apply.
Scenario 1: The retirement account owner dies before January 1, 2020, (pre-SECURE Act) and only names one beneficiary. That beneficiary dies after December 31, 2019. Do the SECURE Act inherited account rules apply to the beneficiary’s beneficiaries? The answer is yes. Upon the death of the original beneficiary, subsequent beneficiaries must distribute the remaining retirement account using the SECURE Act rules.3
Scenario 2: The facts are the same as Scenario 1, except the retirement account owner names a trust with two or more beneficiaries as the beneficiary of the account. In this scenario, if the oldest trust beneficiary dies after December 31, 2019, then the SECURE Act applies for distributions after that beneficiary’s death.”4
| Example of multiple trust beneficiaries: Joe had a defined contribution retirement account with his employer when he died prior to January 1, 2020. He named a trust with his two minor children, Jan and Marcia, as the beneficiaries of his account. The pre-SECURE Act rules apply to the distributions to the trust upon Joe’s death. Marcia is the older of the two children, so they will take distributions from the account using her life expectancy.
Marcia dies in 2022, so now the SECURE Act will apply to future distributions from the account. Jan must now take annual distributions using Marcia’s life expectancy but must have the full balance of the account distributed by 2032 (the year that contains the 10th anniversary of Marcia’s death). |
We will address the rules for accounts inherited through trusts under these proposed regulations in more detail in the next issue of Spidell’s Federal Taxletter®.
Note: While these are the rules proposed in the regulations, it is unclear how this would actually be administered by the surviving beneficiaries and their financial institutions, especially in situations involving unrelated beneficiaries.
Scenario 3: Surviving spouses can either roll their deceased spouse’s retirement accounts into their own retirement account and begin taking distributions in the year they turn age 72 or they can keep their deceased spouse’s retirement account as an inherited retirement account and begin taking distributions in the year their deceased spouse would have turned age 72.
Even if the surviving spouse (e.g., wife) chooses the latter option, then the wife steps into her deceased husband’s shoes. This means that if the wife died before January 1, 2020, but her beneficiary (e.g., her son) dies after December 31, 2019, then the SECURE Act applies to any distributions to the son’s beneficiaries.
Plan terms can define payout
The proposed regulations also contain a provision that effectively allows an employer’s defined contribution plan to require the use of the 10-year rule, even if the beneficiary is an eligible designated beneficiary.5 This optional provision is available only where an employee dies before their required beginning date for taking distributions. The IRS’s explanation of provisions (its official synopsis of the proposed regulations) states:
These proposed regulations also provide that in the case of a defined contribution plan, if an employee has a designated beneficiary who is an eligible designated beneficiary, the plan may provide either that the 10-year rule applies or that the life expectancy payments rule applies. Alternatively, the plan may provide the employee or the eligible designated beneficiary an election between the 10-year rule or the life expectancy payments rule.
If a plan provides for this type of election, then the plan must specify the method of distribution that applies if neither the employee nor the eligible designated beneficiary makes the election. If the plan does not include the optional provision and the employee has an eligible designated beneficiary, then the plan must provide for the life expectancy payments rule.
| Example of optional defined contribution plan provision: Dawn was 58 years old and a participant in her employer’s 401(k) plan when she died in 2022. Dawn’s sister Margaret, who is five years younger, is the sole beneficiary of the 401(k).
Dawn’s employer’s 401(k) plan provides that if an employee dies before their required beginning date for taking distributions, then all beneficiaries must distribute the entire account by the end of the year containing the 10th anniversary of the employee’s date of death. Margaret is an eligible designated beneficiary because she is not more than 10 years younger than Dawn. Under the SECURE Act, as written, it appeared that Margaret could distribute Dawn’s 401(k) based on her own life expectancy. However, the proposed regulations allow Dawn’s employer to force the 10-year distribution rule upon Margaret if it is written in the plan’s terms, which they have done in this example. |
Age of majority
Under the SECURE Act, minor children of the deceased retirement account owner are classified as eligible designated beneficiaries and can take RMDs based on their own life expectancy, but only until they reach the age of majority.6 Once the child reaches the age of majority, they must distribute the remainder of the retirement account within 10 years.
The proposed regulations create a hard definition of the term “age of majority” to mean a person’s 21st birthday.7 However, defined benefit plans that have used a prior permitted definition can continue to use the prior definition.
Defining disability
The proposed regulations also seek to provide a uniform definition to determine whether a person is disabled. A person who is disabled as of the date of the employee’s death is classified as an eligible designated beneficiary under the SECURE Act and can distribute an inherited retirement account over their own life expectancy.
Under the proposed regulations, if, as of the date of the retirement plan owner’s death, a beneficiary is younger than age 18, then the beneficiary must have a medically determinable physical or mental impairment that results in marked and severe functional limitation, and that can be expected to result in death or to be of long-continued and indefinite duration.8
Whether a person who is age 18 or older is disabled continues to be determined under IRC §72(m)(7), based on whether they are able to engage in substantial gainful activity. A person will automatically be treated as disabled for these RMD rules if they are considered disabled for Social Security benefit purposes.
| Example of disability: Jane is a participant in her employer’s retirement plan. The beneficiary of her plan is her 10-year-old daughter Eve, who is not disabled. If Jane dies, Eve is an eligible designated beneficiary until her 21st birthday because she is a minor child of the decedent.
If Eve later becomes disabled before her 21st birthday, she will not be treated as a disabled person under the SECURE Act because she was not disabled as of Jane’s date of death. As such, Eve must distribute the remainder of her mom’s retirement account within 10 years of her 21st birthday.9 |
Documenting disability or chronic illness
Documentation of the beneficiary’s disability or chronic illness must be provided to the plan administrator no later than October 31 of the calendar year following the calendar year of the retirement plan owner’s death. If the designated beneficiary is chronically ill, as defined, the documentation must include a certification by a licensed health care practitioner.
1 Proposed Treas. Regs. §1.401(a)(9)-1
2 Prop. Treas. Regs. §1.401(a)(9)-1; Prop. Treas. Regs. §1.664-3(a)(5)(i)
3 Prop. Treas. Regs. §1.401(a)(9)-3(c)(5)(iii)
4 IRC §401(a)(9)(E)(iii)
5 Prop. Treas. Regs. §1.401(a)(9)-4
6 Id.
7 Id.
8 SECURE Act §401; IRC §401(a)(9)
9 Treas. Regs. §§1.664-2(a)(5)(j), 1.664-3()(5)(i)
