Last week the Internal Revenue Service finally kind of finalized new regulations for the many retirement account changes enacted in the SECURE Act (signed into law in 2019) and the SECURE 2.0 Act (signed into law in 2022).
One of the most drastic changes in the SECURE Act applied to rules surrounding inherited retirement accounts. Prior to the SECURE Act, life was pretty simple for someone who inherited a retirement account. They only had a couple of options to choose from, including stretching distributions from the retirement account over their lifetimes to spread out the tax consequences if the original owner passed after they were required to begin their annual Required Minimum Distributions (RMDs).
Thanks to the SECURE Act, there are now at least 13 different rules that could apply to an inherited retirement account depending on when the original owner passed away, how old the original owner was when they passed away, how old the beneficiary is at the time the original owner passed away, and whether the original beneficiary lived long enough to empty their inherited account.
The SECURE Act created three classes of beneficiaries and subjects some of them to a new 10-year distribution rule. The new 10-year rule requires beneficiaries to empty their inherited retirement account by December 31 of the tenth year following the original owner’s passing if the original owner passed away after they were required to begin their annual RMDs. This provision is specifically designed to increase the portion of the retirement account inherited by the government instead of the beneficiary by forcing beneficiaries into higher tax brackets.
Most retirement plan experts believed that beneficiaries under the new 10-year rule would simply need to empty the account within the proscribed 10-year time period. However, the Internal Revenue Service surprised these experts when they released their proposed regulations in 2022 by requiring these beneficiaries to ALSO take annual RMDs from these accounts.
Due to the confusion this caused, the Internal Revenue Service waived such RMDs for beneficiaries under the 10-year rule for 2021 and 2022 immediately. They waited until July 2023 to extend this waiver to 2023 and until April 2024 to extend this waiver to 2024.
The final regulations issued last week Thursday make it very clear that beneficiaries under the 10-year rule will be required to take annual RMDs starting in 2025. This is not the outcome for which we were hoping as, in our view, this annual requirement adds unnecessary complications for an account that will be closed within a decade anyway.
While these final regulations generally appear to follow the proposed regulations issued in 2022, there are some additional quirks in the minutia that could have an impact in specific circumstances. We are continuing to review these quirks to determine if they will impact any of our clients.
Finally, within the “final” regulations, the IRS also added some additional proposed regulations for which they are seeking comments. The most impactful proposal is for taxpayers born in 1959.
The SECURE Act 2.0 clearly stated that those born between 1951 and 1958 are subject to RMDs starting in the year they turn 73 and those born in 1960 or later are subject to RMDs starting in the year they turn 75.
However, the SECURE Act 2.0 legislative text included conflicting provisions regarding the age at which RMDs begin for taxpayers born in 1959. One section stated their RMD age was 73. Another section stated their RMD age was 75.
The IRS’ new proposed regulations would finalize the RMD age for those born in 1959 as 73.
As always, we will continue to actively monitor legislative and regulatory changes that create financial planning risks or opportunities for our clients.
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Quote of the week:
George Washington: “Government is not reason, it is not eloquence, it is force. Like fire, a troublesome servant and a fearful master. Never for a moment should it be left to irresponsible action.”
