IRS provides limited RMD relief

Once again, due to ongoing confusion about required minimum distributions, the IRS has found it necessary to give limited relief to both IRA owners and beneficiaries. The relief was contained in Notice 2023-54, issued Friday.

RELIEF FOR IRA OWNERS

The SECURE 2.0 Act raised the RMD age from 72, set by the original SECURE Act, to 73 for those who turn 72 this year or later (those born in 1951 or later).

The problem was that SECURE 2.0 was signed into law so late in the year that some IRA owners weren't aware of the change and took their RMDs early this year, when it turns out they didn’t have to. Without relief, they would owe tax on those distributions. Adding to the problem was that some financial institutions had already sent out letters mistakenly saying that RMDs were owed.

On March 7, IRS issued IRS Notice 2023-23 to grant relief to allow those institutions to correct their RMD letters, but no relief was granted for IRA owners who took what they thought were RMDs early in the year.

[More: Incorrect RMD notices may result in distributions that aren’t exactly ‘required’]

But now the IRS has issued Notice 2023-54 providing RMD relief for these IRA owners by allowing them to return (roll over) the “accidental” RMD to their IRA if they wish. This will eliminate the tax bill on that distribution.

Under this relief provision, those IRA owners who already took these early RMDs (or will take them by July 31) will have until Sept. 30 to return those funds, even though the normal 60-day period may have long passed.

Under the tax rules, RMDs can never be rolled over, but these distributions aren't RMDs, so they are eligible to be rolled over under this new guidance.

The IRS says the rollback will be allowed even if an IRA-to-IRA or Roth IRA-to-Roth IRA rollover was done within the last 12 months. (The once-per-year IRA rollover rule normally only allows one of these IRA-to-IRA rollovers per 365 days).

However, this rollback will trigger a new one-year period going forward in which no further IRA-to-IRA rollovers can be done. So if any future rollovers within the one-year term are being considered, they should only be done as direct “trustee-to-trustee” transfers.

ROTH CONVERSION OPPORTUNITY?

RMDs can never be converted to Roth IRAs because RMDs can't be rolled over, and a Roth conversion is a rollover. But since these mistaken distributions weren't really RMDs, it appears the funds can be converted if the IRA owner is willing to pay the tax. The IRS does not specifically say this in the notice, but since the 60-day rollover deadline is extended, it's likely that unwanted withdrawals can be converted to Roth IRAs, also up to the Sept. 30 deadline.

This may be a good planning opportunity for those wanting to take advantage of the current low tax rates before RMDs actually do kick in next year. Once RMDs begin, any Roth conversion will be more expensive tax-wise, since the RMD cannot be converted. The first dollars withdrawn from the IRA will be deemed to go toward the RMD. Once the RMD amount is satisfied, then any part or all of the remaining IRA balance can be converted. But it will cost more, since the RMD had to be taken first without the ability to convert it.

NON-SPOUSE BENEFICIARY RMD RELIEF

In the same Notice, the IRS also said that beneficiaries who are subject to the 10-year payout rule and inherited from someone who had already begun taking RMDs will not be subject to an RMD penalty for a missed 2023 RMD. In effect, the 2023 RMD does not have to be taken, and it does not have to be made up in a future year.

Back on Oct. 7, 2022, the IRS issued Notice 2022-53, in which it granted similar relief for these beneficiaries for years 2021 and 2022 (when the IRA owner died in 2020 or 2021).

[More: The IRS answers a crucial penalty question for missed RMDs]

Now the IRS has extended the relief for this same group of beneficiaries for 2023 RMDs. The IRS also excused 2023 RMDs for beneficiaries subject to the 10-year payout rule where the IRA owner died in 2022 after starting RMDs.

BENEFICIARIES WHO DON'T GET THIS RMD RELIEF

This RMD relief only applies to beneficiaries who inherited from an IRA owner who died after beginning RMDs, in 2020 or later. Under the IRS proposed regulations, these beneficiaries are subject to RMDs for years one through nine of the 10-year term.

The notice does not affect lifetime RMDs for IRA owners, who must still take them and are still subject to the RMD penalty for any RMDs that are missed.

Roth IRA beneficiaries are also unaffected because they're not subject to RMDs for years one through nine of the 10-year term. Under the tax rules, anyone who dies with a Roth IRA is deemed to have died before they were required to begin RMDs, regardless of their age. That’s because there are no lifetime RMDs for Roth IRA owners.

This RMD relief also doesn't apply to IRAs inherited by eligible designated beneficiaries or RMDs for beneficiaries who inherited before 2020. Both of these groups still get to use the stretch IRA, so this reprieve does not cover them.

Five classes of eligible designated beneficiaries:
1. Surviving spouses.
2. Minor children of the account owner, until age 21 — but not grandchildren.
3. Disabled individuals — under the strict IRS rules.
4. Chronically ill individuals.
5. Individuals older than, or not more than 10 years younger than, the IRA owner.

Advisors should identify both the IRA owners and beneficiaries who may benefit from this new RMD relief and share the good news with them.

For more information on Ed Slott and Ed Slott’s 2-Day IRA Workshop, please visit www.IRAhelp.com.