Inheritors of IRAs – Proposed Changes

Mar 28, 2022

In one of his fables, Aesop’s coined the phrase “leave well enough alone.” Though his commentary and usage of the phrase centered around a fox and a hedgehog, the expression is well-suited for the new proposed changes to the SECURE Act that will impact distributions to IRA inheritors.

On February 23, 2022, the IRS issued proposed regulations to address any ambiguity in the SECURE Act that was passed in December of 2019. Guidance was provided to mainly address distribution requirements for Non-Eligible Designated Beneficiaries; the definition of who could be deemed an Eligible Designated Beneficiary; and trust beneficiaries of retirement accounts.

While there are many important clarifications in the new proposals, the specifics addressing non-eligible designated beneficiaries will likely have the most impact on retirement account inheritors. Keep in mind these are only proposals and have not been finalized.

What Is and What’s to Come for Non-Spouse Beneficiaries

Before the SECURE Act, beneficiaries of IRA had a few sets of rules to follow. For this article, we’ll focus on non-spouse beneficiaries.

Under the old rules, non-spouse inheritors could stretch the distributions of the inherited retirement account over the rest of their lives. The SECURE Act eliminated the stretch provision and replaced it with the requirement that the account be completely distributed within ten years of the decedent’s passing.

During that ten-year window, the beneficiary could take distributions of any amount and frequency, as long as the account was depleted by the end of the 10th year. Not as tax efficient as the pre SECURE Act policy, but fairly straightforward and still provided a level of flexibility to the beneficiary.

On February 23, 2022, the IRS said, “Not so fast!” Under the new proposals, regulators are positioning to further complicate things by incorporating the 10-year rule AND stretch distributions. The point of distinction in determining which distribution option you must take is based upon whether or not the original account owner had reached their required beginning date (RBD), currently set at age 72. The rules imposed would be as follows:

  • If the retirement account owner passes before RBD, the inheritor only needs to follow the 10-year rule.

  • If the retirement account owner passed on or after RBD, the inheritor must use the 10-year rule AND take stretch distributions. Essentially, the beneficiary would start taking required distributions immediately and then must fully liquidate the account by the end of the 10th year after death.

The complexity that would be imparted in ensuring proper rules allocation is significant. Take, for example, the following scenario. Tom (age 75) and Tammy (age 68) both passed this year (2022), leaving behind IRAs for their only child, Jack. Under current rules, Jack would need to have both IRAs liquidated by the 10th year following the year of Jack’s parents’ death (year-end 2032). Conversely, if the proposed changes are enacted, Jack would be looking at two different distribution scenarios:

  • Tammy’s IRA (age 68) – Since Tammy had not reached RBD, Jack would be required to have the account distributed in full by year-end 2032.

    • It’s important to note that Jack could take distributions during that 10-year window, though it is not required.

  • • Tom’s IRA (age 75) – Since Tom had reached RBD, Jack would now have two sets of rules to follow:

    • He must begin taking ‘stretch’ life expectancy calculated distributions beginning in the year following his father’s passing.

    • He must also ensure the account is fully distributed by year-end 2032.

Recordkeeping has already been put to the test under the current regulations. The additional caveats will surely bring about additional complications if things progress as proposed. Expect quite a bit of feedback as time passes.

Summary

As stated above, these are merely proposals, and there are no assurances that the new regulations will pass in their current form. This is just one of many provisions discussed and clarified in the most recent release. There will assuredly be feedback and comment letter submissions by those in the financial industry that may impact the final standing of this proposal.

However, it is important to be at the forefront of what is on the table so proper due diligence, if needed, can be taken in advance of any enactment of proposed acts. It is always best to discuss these proposed changes with your financial and tax advisors to ensure you completely understand the impact these changes could have on your financial situation.

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