IRS provides guidance and relief for certain missed Required Minimum Distributions

In detail

Significant changes to Section 401(a)(9) through the SECURE Act

One significant change to Section 401(a)(9) introduced by the SECURE Act relates to the requirements for defined contribution plans paying benefits after a participant’s death. Previously, distribution of these benefits was subject to certain rules, depending on the category of the participant’s death (before or after the required beginning date of RMDs). According to current regulations, if the participant died prior to the required beginning date, the benefit has to be distributed within five years of the participant’s date of death, or the payments can be paid out in accordance with a stretch provision.

The SECURE Act changed the five-year requirement to a 10-year requirement for plans and beneficiaries, regardless of whether the participant dies before or after the required beginning date. The stretch provision still applies, although it only applies to “eligible designated beneficiaries” (EDBs). The five-year rule will still apply if there is no beneficiary or if the beneficiary is not an individual. The rule changes also expanded the scope from solely defined contribution plans to include IRAs as well.

Observation: The proposed regulations require distributions made under the 10-year rule to begin the year after the participant’s death if that individual died on or after the required beginning date. This is in contrast to the five-year rule, which required payments to be made prior to the end of the fifth year after the participant’s death, even if the entire payment was made in one lump sum at the end of the fifth year. To add to the complexities, the requirements for plans and beneficiaries of plan participants who died prior to the required beginning date are such that plans must pay out any benefit remaining at the end of the 10th year after death, as opposed to annually. There was widespread confusion about the proposed regulations, in that most commenters believed that the 10-year rule would work exactly like the five-year rule and would allow for all payments to be delayed until the end of the 10th year in either scenario (death of the participant before or after the required beginning date).

Excise tax relief

The RMD rule change in the proposed regulations, and the associated misunderstanding of the rule change, resulted in a large number of plans and beneficiaries of plan participants (who died after the required beginning date) to be in violation of Section 401(a)(9). This violation includes a 50% excise tax penalty on the deficient distribution for the tax year (Section 4974 penalty). The concerns of this group prompted the IRS to issue the Notice, which provides excise tax relief for tax years 2021 and 2022 to the group affected by the misinterpretation.

The Notice’s relief applies to beneficiaries of participants who died in 2020 or 2021, after the new 10-year rule was implemented as part of the SECURE Act. Additionally, individuals with inherited IRAs and certain successor beneficiaries of EDBs who died in 2020 or 2021 were provided relief. Those individuals who already paid the excise tax can seek a refund. Although the Notice does not specifically address this topic, the relief provided is not expected to continue after the 2022 tax year.

The Notice also addresses the defined contribution plans that failed to make the required payments in 2021 or 2022. These plans are provided relief by not being treated as having an operational failure as a result of missing the payments.

Observation: Those who did properly take out RMDs cannot repay them to the plan. The relief is only for those who failed to take out RMDs.