When signed into law on December 29, 2022, the Secure 2.0 Act had a significant impact on a variety of qualified retirement accounts. While the intent was to increase retirement savings, as well as simplify and demystify plan rules, there are substantial other effects of which to be aware. This article is part of a series that will breakdown the more common effects the Secure 2.0 Act has on retirement accounts and expand on certain surrounding fundamentals.
Required Minimum Distributions Requirements
The required minimum distributions (RMD) age limit for individual retirement account (IRA) owners, including beneficiaries of an IRA, changed for the 2023 calendar year, increasing from age 72 to age 73. This means IRA owners turning 73 in 2023 will not need to begin taking RMD until April 1, 2024. This may create confusion for IRA owners born in 1951, who were previously notified of a 2023 RMD responsibility. To rectify the discrepancy, the IRS has mandated financial institutions notify affected IRA owners of the RMD delay by April 28, 2023. To mitigate further misunderstanding, the IRS also suggested financial institutions remind IRA owners who turned age 72 in 2022 of their RMD obligation due April 1, 2023.
Taking an RMD can push a taxpayer into a higher tax bracket for that tax year, which may be mitigated by:
- Taking the RMD by December 31 of the previous tax year
- Donating the RMD through a qualified charitable distribution to reduce adjusted gross income
- Avoiding the RMD altogether by converting an IRA to a Roth or purchasing a deferred income annuity
A seasoned tax professional can offer advice on which options would be most beneficial to a retirement account owner in order to minimize a substantial tax liability increase.
After the initial April 1 RMD, subsequent RMD must be withdrawn by December 31 of each calendar year to avoid a tax penalty. Additionally, an IRA account owner with an RMD obligation may withdraw more than the RMD amount, free of penalty.
The RMD can be met through withdrawal from a single account or a combination of accounts. Retirement accounts subject to RMD requirements include the following account types:
- Traditional IRA
- Savings Incentive Match Plan for Employees (SIMPLE) IRA
- Simplified Employee Pension Plan (SEP) IRA
- Profit-sharing Plans
- 401(k), 403(b) and 457(b) Plans
It’s important to know that each retirement account owner must meet their own RMD obligation. Withdrawing from the retirement account of a spouse does not satisfy the other spouse’s RMD requirement.
Beneficiaries who inherit a retirement account from an original retirement account owner have different RMD rules. Factors affecting requirements for a beneficiary’s account is subject to include:
- The beneficiary’s relation to the original owner
- The age of original owner at the time of death
- The year the original owner passed away
- The age of the beneficiary from inheritance date forward
- The type of retirement account being inherited
How does the IRS know if an RMD is missed or insufficient?
IRA account custodians are required to report what an IRA owner’s RMD amount is to both the account owner and the IRS. Therefore, the IRS has a record of the required RMD amount compared to what the account holder actually took.
IRA account holders should be diligent in calculating their RMD and not solely rely on information from their account custodian. Communications sent via U.S. mail or email can get lost or overlooked. Therefore, it is wise to set up an annual reminder as a safety net, ensuring time to determine all RMD obligations.
The IRS Uniform Lifetime Table may be used to calculate withdrawal amounts required by the December 31 deadline. This is done by determining the balance of the IRA at the end of the previous year, locating the account owner’s age and distribution period number on the table, and dividing the IRA account balance by the distribution period. For example, an IRA owner who turns age 75 in 2023 with an account balance of $100,000 must take out $4,065 ($100,000 divided by 24.6) by December 31, 2023.
When an RMD is Missed or Late
The IRS imposes a 50% penalty tax when an RMD is not taken, or not taken timely. Before resigning to this steep penalty, consult with your tax professional to discuss options available.
Some IRA owners, depending on the penalty amount, may opt to report their oversight and pay the penalty. This done by completing and mailing Form 5329 with payment to the IRS.
The IRS may waive the penalty, however, only when errors are determined to be reasonable. In this situation, mail a completed Form 5329 to the IRS with a letter of explaining why the waiver is being requested. There is no need to send a payment until the IRS responds to the waiver request. And there is no clear guidance as to what the IRS will consider a reasonable error; however, chances can be favorable that a waiver is obtainable.
Aside from RMD requirements, the Secure 2.0 Act provides for other penalty-free retirement account withdrawals:
- Expenses due to unforeseeable or immediate needs related to personal or family emergencies
- Victims of domestic abuse
- Terminal illness of the plan participant
- Qualified disasters
Working with a professional financial advisor on retirement planning projections and needs is a great way to determine when to retire, the best saving and contribution practices, and how to stretch money to meet financial goals over time. Keep following this article series for more information on the provisions of the Secure 2.0 Act.
Author, Dyan Cole
Director of Operations
Any accounting, business or tax advice contained in this communication, including attachments and enclosures, is not intended as a thorough, in-depth analysis of specific issues, nor a substitute for a formal opinion, nor is it sufficient to avoid tax-related penalties.