The SECURE Act’s 10-year rule revisited
One of the major provisions of the SECURE Act of 2019 was the 10-year rule on distributions for non-spouse beneficiaries named on the Individual Retirement Account (IRA) beneficiary form.
Under this provision, the “stretch” option — that is, the option to spread disbursements from the inherited IRA over a lifetime — is only available to spouses and eligible beneficiaries, such as the disabled and chronically ill, as well as to beneficiaries who are not more than 10 years younger than the deceased IRA owner. These rules have been in effect since the start of 2020.
It was believed by almost all IRA experts, including Ed Slott (www.irahelp. com), that under the 10-year rule, beneficiaries would not have to take specific required minimum distributions (RMDs) for years one through nine. But by the end of the 10th year, beneficiaries would be required to withdraw and pay taxes on the remainder of the funds in the inherited IRA. This had been the assumption, based on the workings of the five-year rule that is in effect when there is no designated beneficiary and the IRA owner dies before the required beginning date for RMDs at age 72.
Slott, however, has pointed out that the assumption that no distributions would be required in years one through nine is incorrect. The IRS indicated in Publication 590-B that beneficiaries would be subject to RMDs each year, as under pre-SECURE Act rules, and the balance must be withdrawn in year 10. This interpretation is not consistent with SECURE Act rules and committee reports, which seemed to indicate that the 10-year rule would work similar to the pre-SECURE Act five-year rule.
In Slott’s opinion, this new interpretation would not create significant tax issues because the RMDs in the first few years of the 10-year period would not be large. In addition, as I have pointed out in prior columns, waiting until the 10th year to sell would likely result in a large income tax liability with a higher marginal tax bracket
The IRS has also indicated that individuals who are eligible for the stretch option under the SECURE Act can elect the 10-year option, but only if the death occurs before the required beginning date. However, there doesn’t seem to be any advantage in doing so. If you are a spouse or a beneficiary eligible to use the stretch option, there is no apparent reason why you would select the 10-year option.
Under the new interpretation by the IRS, beneficiaries who inherited IRAs in 2020 are already subject to RMDs in 2021. This also applies to trust beneficiaries. However, the IRS has not released official regulations yet, and there is a comment period. So Slott has recommended that beneficiaries of IRAs inherited in 2020 you should wait until the 10-year rule is resolved with certainty.
Those who inherited IRAs in 2020 have been led to believe that if the 10-year rule applies to them, they were not required to take any RMDs in 2021. So if you know anyone who inherited an IRA in 2020, advise them that they may have to take an RMD by year-end.
I will report in a subsequent column on whether and how the IRS position changes after the comment period is over and the IRS issues official records on this issue.