Home > California CPA Magazine > March/April 2009 > Federal Tax: Distribution Relief

Federal Tax: Distribution Relief

New law suspends certain RMDs for 2009

By Stuart R. Josephs, CPA
The 2008 Worker, Retiree, and Employer Recovery Act (P.L. 110-458), signed into law Dec. 23, 2008, suspends required minimum distributions (RMDs) from individual retirement accounts and annuities (IRAs) and employer-provided qualified retirement plans that are defined contribution plans. This Act also provides pension plan funding relief and technical corrections to the 2006 Pension Protection Act, which are beyond this column’s scope.

Background: RMDs
Employer plans and IRAs are subject to RMD rules. Employer plans are tax-qualified plans described in IRC Sec. 401(a), such as defined benefit pension plans or Sec. 401(k) plans; employee retirement annuities described in Sec. 403(a); tax-sheltered annuities described in Sec. 403(b); plans described in Sec. 457(b) maintained by governmental employers; and Sec. 457(b) plans maintained by non-governmental tax-exempt employers.

An employer plan that is a defined contribution plan is one that provides an individual account for each participant and for benefits based on the amount contributed to the participant’s account and any income, expenses, gains, losses and forfeitures of other participants’ accounts that may be allocated to this participant’s account [Sec. 414(i)].

RMDs generally must begin by April 1 of the year following the year in which the employee or IRA owner attains age 70.5. However, in the case of an employer plan, the RMD date for an employee who is not a 5 percent owner of that employer is delayed to April 1 of the year following the year in which the employee retires.

For IRAs and defined contribution plans, each year’s RMD generally is determined by dividing the previous year’s account balance by a distribution period—generally a number in the uniform lifetime table, based on the joint life expectances of the individual and a hypothetical beneficiary 10 years younger than the individual. For an individual with a spouse as the beneficiary who is more than 10 years younger, the couple’s joint life expectancy is used.

If an individual dies on or after the individual’s required beginning date, the RMD also is determined by dividing the previous year’s account balance by a distribution period, which is the remaining years of the beneficiary’s life expectancy. If there is no beneficiary, the distribution period is the remaining years of the decedent’s single life expectancy, using the decedent’s age in the year of death.

If an individual dies before the individual’s required beginning date, there are two methods for satisfying the after-death RMD rules: the life expectancy rule or the five-year rule.

Under the first rule, annual RMDs must begin no later than Dec. 31 of the year immediately following the year of death. This rule is available only if the beneficiary is an individual. If the beneficiary also is the individual’s spouse, commencement of distributions can be delayed until Dec. 31 of the year in which the decedent would have attained age 70.5.

The RMD for each year also is determined by dividing the previous year’s account balance by a distribution period based on the beneficiary’s life expectancy. Under the five-year rule, the individual’s entire account must be distributed no later than Dec. 31 of the calendar year containing the fifth anniversary of the individual’s death.

A special after-death rule applies for an IRA whose beneficiary is the surviving spouse. This spouse can choose to calculate RMDs while the spouse is alive, and after the spouse’s death, as though the spouse is the IRA owner rather than a beneficiary.

Roth IRAs are not subject to the RMD rules during the IRA owner’s lifetime. However, they are subject to the post-death RMD rules applicable to traditional IRAs. For Roth IRAs, the IRA owner is treated as having died before the individual’s required beginning date. Thus, only the life expectancy and five-year rules apply.

Failure to make an RMD triggers a 50 percent excise tax, payable by the individual or the individual’s beneficiary. This tax is imposed for the tax year that begins with, or within, the calendar year for which the distribution was required. The tax may be waived if the distribution did not occur because of reasonable error and reasonable steps are taken to remedy this violation.

Background: Eligible Rollover Distributions
Generally, distributions from an employer plan can be rolled over tax-free into another employer plan or IRA by contributing the amount of the distribution to the other plan or IRA within 60 days of the distribution, or by a direct rollover by the plan to the other plan or IRA. Eligible rollovers exclude RMDs.

For any distribution eligible for rollover, an employer plan must offer the distributee the right to have the distribution made in a direct rollover and, before the distribution, the plan administrator must give the distributee a written explanation of the direct rollover right and related tax consequences.

If a distributee does not choose a direct rollover, the distribution generally is subject to mandatory 20 percent income tax withholding.

New Law: RMDs
No minimum lifetime or after-death distributions are required for calendar year 2009 from IRAs and employer plans that are defined contribution plans [within the meaning of Sec. 414(i)].

Note: The Joint Committee on Taxation Report No. JCX-85-08 refers to Sec. 414(i). However, the new statutory language refers to a defined contribution plan described in Sec. 401(a), which does not contain such a definition. A technical correction appears appropriate.

In the case of an individual whose required beginning date is April 1, 2010 (i.e., the individual attained age 70.5 in 2009), the first year for which a minimum distribution was required under the old law was 2009. However, under the new law, no distribution is required for 2009. Thus, no distribution will be required by April 1, 2010.

On the other hand, the new law does not change the individual’s required beginning date to determine the RMD for calendar years after 2009. Therefore, for an individual whose required beginning date is April 1, 2010, the RMD for 2010 must be made by Dec. 31, 2010.

If the individual dies on or after April 1, 2010, the beneficiary’s RMD will be determined using the rule for death on or after the individual’s required beginning date.
If the five-year rule applies to an account with respect to any decedent, under the new law, the five-year period is determined without regard to calendar year 2009. For example, for an account of an individual who died in 2007, the five-year period ends in 2013 instead of 2012.

New Law: Eligible Rollover Distributions
If all or a portion of a distribution during 2009 is an eligible rollover distribution because it is no longer an RMD under this new law, the distribution is not treated as an eligible rollover distribution for purposes of the direct rollover requirements, including notices and written explanations, or for the mandatory 20 percent income tax withholding for eligible rollover distributions—to the extent the distribution would have been an RMD for 2009 without the new law.

For example, if an employer plan distributes $50,000 to an employee (E) during 2009 that is an eligible rollover distribution, but would have been a 2009 RMD, the plan is permitted, but not required, to offer E a direct rollover of this $50,000 and provide E with a written explanation of the requirements. If E receives the distribution, it is not subject to withholding and E can roll it over by contributing it to an eligible retirement plan within 60 days of the distribution.

Effective Date
The new law is effective after 2008. However, it does not apply to any 2008 RMD that is permitted to be made in 2009 because of an individual’s required beginning date being April 1, 2009.

Note: IRS Notice 2009-9 provides guidance to financial institutions on reporting waived RMDs for 2009. If a financial institution sends an RMD statement to an IRA owner, it must show the 2009 RMD as zero or it can show the RMD that would have been required with an explanation of the 2009 waiver.   
Stuart R. Josephs, CPA has a San Diego-based Tax Assistance Practice that specializes in assisting practitioners in resolving their clients’ tax questions and problems. Josephs, chair of the Federal Subcommittee of CalCPA’s Committee on Taxation, can be reached at (619) 469-6999.