IRS Clarifies 10-Year RMD Rule and Pub. 590-B

IRS Clarifies 10-Year RMD Rule and Pub. 590-B

The SECURE Act replaced the “stretch” life expectancy distribution rule with a fixed 10-year rule for most non-spouse inherited IRA beneficiaries. Many assumed required distributions could wait until the tenth year. However, an updated version of IRS Pub. 590-B, Distributions from Individual Retirement Arrangements, suggested they start in 2020 for new designated beneficiaries. Thankfully, the IRS clarified this publication so that it now matches original expectations.

The required minimum distribution (RMD) rules apply to defined contribution retirement plans and traditional IRA plans. Special distribution rules apply for the beneficiaries of inherited IRAs. Historically, designated beneficiaries of deceased employees or IRA owners could take distributions through the remainder of their life expectancy. The SECURE Act changed that, imposing instead a maximum 10-year duration for owners dying after 2019.

Inherited IRA Distribution Periods under the Old Rules

All defined contribution retirement plans and traditional IRAs have to start making RMDs after the employee or owner reaches a certain age. The required beginning date (RBD) for RMDs is no later than April 1 of the calendar following the year the employee or IRA owner turns age 72. Defined contribution retirement plans must provide either that:

• the entire interest of the employee is distributed either by the required beginning date; or
• the entire amount will be distributed beginning not later than the required beginning date, over the life of the “employee” (which includes IRA owners), or the lives or life expectancies of the employee and a designated beneficiary.

A designated beneficiary is a person designated by the IRA owner or retirement plan participant to be a beneficiary. Charities, estates, and most trusts cannot qualify as designated beneficiaries. Designated beneficiaries who are also surviving spouses get more favorable treatment. The other kind of beneficiary includes entities (e.g., estates, charities, and most trusts), and individuals who for one reason or another don’t qualify as “designated.”

The rules include two timing situations: one where the employee dies after RMDs have begun under the life expectancy rules; and the other where they employee dies before RMDs have begun. The rules also distinguish between two kinds of beneficiaries: designated beneficiaries who can use their own life expectancy for distribution periods, and all other kinds of beneficiaries. 

Death After RMDs Have Begun

“At least as rapidly” rule. If the IRA owner dies after distributions have begun under the life expectancy rules, the remaining amount must be distributed at least as rapidly as the method being used. If the beneficiary is a designated beneficiary, that individual’s life can be used. If the beneficiary is not a designated beneficiary, the beneficiary would use the life expectancy of someone of the employee’s age at death (sometimes called “ghost life” expectancy).

Death Before RMDs have Begun

5-year rule. If the employee dies before the required beginning date, the entire amount must be distributed within a 5-year period. The 5-year rule allows beneficiaries to delay all required distributions to the end of the calendar year that contained the fifth anniversary of the employee’s death. Also, plans may allow designated beneficiaries who would otherwise qualify for a life expectancy distribution period to select the 5-year rule. 

Life expectancy exception to 5-year rule for designated beneficiaries. The 5-year rule does not apply to designated beneficiaries who under regulations may use their lives or life expectancy as the distribution period. 

Comment: The life expectancy exception is operationally similar to the “at least as rapidly” rule in that it allows designated beneficiaries to use their life expectancy for the distribution period even if the RMDs have yet to begin. 

SECURE Act Changes

The SECURE Act limited stretch IRAs in two ways. First, most non-spouse designated beneficiaries have a 10-year distribution period. Second, the SECURE Act added “eligible designated beneficiaries (EDBs) as a new type of beneficiary under the RMD rules. Only designated beneficiaries who qualify as EDBs can use the life expectancy rules.

EDBs include a surviving spouse, a child before reaching the age of majority, and a child who is disabled or chronically ill. Note that some of these beneficiaries may lose their EDBs status before they die. EDBs also include persons who do not fall under any of these other categories and is not more than 10 years younger than the employee.

Beneficiaries who are not designated beneficiaries. The 5-year rule is unaffected for beneficiaries who are not designated beneficiaries. Estates, charities, and most trusts will continue using that rule if the employee dies before the RMDs have begun. They will also continue to use the employee’s ghost life expectancy if the employee after RMDs have begun.

Non-EDB designated beneficiaries. Designated beneficiaries no longer qualify for the life expectancy distribution to the 5-year rule where the employee dies before RMDs have begun. Designated beneficiaries have to use “5-year rule,” but lengthened to 10 years instead. In addition, the 10-year limit applies whether the employee dies before or after the RMDs have begun. 

What does this mean? The common interpretation of these changes has been that not only is the life expectancy exception for designated beneficiaries who are not EDBs eliminated, but also the “at least as rapidly” requirement. This only makes sense, under this view, because a 10-year version of the 5-year rule governs whether or not the IRA owner dies before or after distributions have begun.

An alternative interpretation is that the change eliminates the life expectancy exception where the RMDs have not begun, but the “at least as rapidly” rule still applies in situations where RMDs have begun. This would be true, in this view, even though limited the distribution period is limited to 10 years. Under this interpretation, if the employee dies before RMDs have begun, the 5-year rule applies but using 10 years. If the employee dies RMDs have begun, the beneficiary has to take the normal life-expectancy based distributions for 9 years and distribute the remainder in the tenth year.

IRS Pub. 590-B

The IRS updated Publication 590-B this spring for 2020 returns. The updated publication was clear that the 10-year rule applies if the beneficiary is a designated beneficiary who is not an EDB, regardless of whether the owner died before or after RMDs have begun. The publication was also clear that EDB’s may elect the 10-year rule if the owner died before RMDs have begun.

The updated publication, however, had a troubling example regarding an IRA owner who dies after RMDs have begun. The beneficiary is a grown son. In the example, the beneficiary had to take the first RMD in 2020 under the usual life expectancy rules. If the death in the example had occurred before 2020, the example would be an unremarkable application of the “at least as rapidly” rule applied to a nonspouse designated beneficiary. The death in 2020, however, meant that a non-EDB beneficiary has to begin taking life expectancy based RMDs in the first year of the 10-year distribution period.

On May 27, 2021, the IRS issued a revised Publication 590-B for 2020. The revised version clearly states that “beneficiaries are allowed, but not required, to take distributions prior to December 31 of the year containing the 10th anniversary of the owner’s death.” The IRS changed the troubling example of the non-minor son to a less than 10 years younger brother, an unambiguous EDB.

Conclusion

Mistakes happen when guidance gets updated, and it turns out a mistake is all this was. Some feared it was an early warning of the IRS’s thinking on the 10-year rule. It is certainly true that the Internal Revenue Code and the regulations are complicated enough that this worry was not crazy. But it turns out we can all move along quietly, there is nothing to see here.

By James Solheim, J.D.

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