The Excise Tax Waiver Has Expired for 10-Year IRA Beneficiaries with Annual RMDs

March 1, 2024

By: Denise Appleby, MJ, CISP, CRC, CRPS, CRSP, APA

Beneficiaries subject to SECURE Act’s 10-year rule and required to take annual RMDs were granted an automatic waiver of the excise tax that would otherwise apply if they failed to take required minimum distributions (RMDs). These automatic waivers applied to 2021, 2022, and 2023. But, failing further extension by the IRS, these beneficiaries must take RMDs for 2024 to avoid the 25% excise tax.

Who qualified for this automatic excise tax waiver?

This automatic waiver applies only to beneficiaries who meet the following two requirements:

1. They are subject to the 10-year rule, under which their inherited IRA must be fully distributed no later than the 10th year after they inherited the IRA. And
2. They are required to take annual RMDs.

These beneficiaries are:

A. Any designated beneficiary who inherited a traditional, SEP, or SIMPLE IRA, where the IRA owner died on or after their required beginning date (RBD).

• The RBD is the date an account owner must take their first RMD.
• Roth IRAs are not included because Roth IRA owners do not have RMDs.

Example 1

50-year-old Tom inherited his 75-year-old father’s traditional IRA in 2020. Tom is more than ten years younger than his father, not disabled or chronically ill, and, therefore, not an eligible designated beneficiary. Since Tom is a plain designated beneficiary, he is subject to the 10-year rule and, therefore, must ensure that the inherited IRA is fully distributed by the end of 2030. In addition, because Tom’s father died after his RBD, Tom must take annual RMDs over his life expectancy beginning in 2021.

While the excise tax applies to an RMD that is not taken for a year, it is automatically waived for Tom for 2021, 2022, and 2023.

B. A successor beneficiary, where the primary beneficiary was taking life expectancy distributions.

This provision applies to traditional, SEP, SIMPLE, and Roth IRAs.

Example 2

75-year-old Sally inherited a traditional IRA from her 77-year-old sister Carla in 2020. Sally is an eligible designated beneficiary because she is ‘not more than ten years younger’ than Carla.

Sally must take annual distributions over her life expectancy, beginning in 2021. The 10-year rule does not apply to Sally because she is an eligible designated beneficiary.

The automatic waiver does not apply to Sally because she is not subject to the 10-year rule.

Sally died in 2022, and her IRA was inherited by her son, Tim.

Tim, the successor beneficiary of Carla’s IRA, must continue taking distributions over Sally’s life expectancy beginning in 2023. Tim must also ensure that the IRA is fully distributed no later than 2032, which is the 10th year after Sally’s death.

While the excise tax applies to an RMD that is not taken for a year, it is automatically waived for 2023 for Tim.

While other beneficiaries could qualify for waivers under other circumstances, these are the only two types that qualify for the automatic waiver discussed in this article.

Are ‘catch-up RMDs’ required?

A catch-up distribution is optional for those qualifying beneficiaries who did not take their RMDs for any or all three years (2021, 2022, and 2023). However, they must still meet the 10-year deadline. For instance, in the case of Tom in Example 1, he must still ensure that his inherited IRA is fully distributed by the end of 2030 despite the waiver of the excise tax.

No special tax forms or tax reporting required

Generally, IRS Form 5329 must be filed for an RMD not taken by the deadline, and any excise tax included as ‘additional taxes’ on the individual’s tax return. But an exception applies where there is an automatic waiver. Resultantly, beneficiaries who qualified for the automatic waiver discussed herein need not file IRS Form 5329 for any RMDs not taken for those years.

Should these beneficiaries wait and see for 2024?

One of the common questions about this automatic waiver is whether it will be extended for 2024. There is yet to be an indication from the IRS that it will. There is still time for those who prefer to wait, as the deadline for taking the 2024 RMDs is December 31, 2024.

The IRS’s first notification of the excise tax waiver was published in July of 2022, explaining the excise tax was waived for 2021 and 2022.

The second notice, extending the waiver to 2023, was issued in July 2023. It would be reasonable to assume that any notification of an extension of the waiver could be issued later in the year.

To take or not to take a 2024 RMD

Beneficiaries should consider the impact of not taking RMDs for 2024, even if the excise tax is waived. Not taking an RMD for 2024 means bunching up the distributions over a period that is one year shorter, causing larger RMD amounts for the remainder of the ten years. However, a waiver might be a welcome solution for a beneficiary who needs to shift the income from 2024 to a later year for tax and other financial planning reasons.

The consequences of missing the 2024 deadline

Failing any further extension of the automatic waiver provision, a beneficiary who misses the deadline for taking their 2024 RMD will owe the IRS an excise tax of 25%. This excise tax is reduced to 10% if the shortfall is corrected in a timely manner.

If a taxpayer misses the RMD deadline due to reasonable error, their tax preparer may request a waiver of the excise tax when filing IRS Form 5329.

Reminder: RMD rules, including the ones discussed in this article, also apply to employer plans. However, plan administrators administer RMDs. Employees and beneficiaries with assets under employer plans should contact the plan administrator for assistance with their RMDs.

Copyright ©2024 Horsesmouth, LLC. All Rights Reserved. Horsesmouth, LLC is not affiliated with Lane Hipple Wealth Management Group or any of its affiliates. Information contained above is accurate as of 2/2/24. It is subject to legislative changes and is not intended to be legal or tax advice. Consult qualified tax advisors regarding specific circumstances. This material is furnished “as is” without warranty of any kind. Its accuracy and completeness are not guaranteed, and all warranties expressed or implied are hereby excluded. Seek legal, tax, and investment advice from qualified professionals.

7 Year-End Tax Planning Tips

October 1, 2022

Consider preparing for the upcoming tax season by taking advantage of a few important end-of-year tax strategies.

Original article from www.usbank.com HERE

We’re now in the final quarter of the year, so why not start thinking about how to minimize our tax burden with actionable tips required prior to December 31st.

1.  Check your paycheck withholdings

An incorrect W-4 can result in an unexpected refund at tax time – or an unexpected tax bill.  Beginning in 2020, the IRS eliminated the old system of withholding “allowances” and now allows employees to provide the specific amount by which they would like to increase or decrease their federal tax withholdings directly. 

Use the IRS Tax Withholding Estimator to find out if you’ve been withholding the right amount or even to calculate your desired refund amount.

Take action:  If you need to make adjustments, file a new Form W-4 at your workplace that includes the added (or subtracted) withholding amount provided by the Withholding Estimator.

Tip:  This is a good time to confirm your state income tax withholding information (if applicable) as well.

2.  Max out your retirement account contributions

Tax-advantaged retirement accounts (such as a traditional IRA or 401(k) plan) compound over time and are funded with pre-tax dollars. That makes them a great investment in your future. They’re also helpful at tax time, since any contributions you make to these plans lower your taxable income.

For the current tax year, the maximum allowable 401(k) contributions are as follows: 

• $20,500 up to age 49
• $27,000 for age 50+ (with $6,500 catch-up contribution)
   

For the current tax year, the maximum allowable IRA contributions are as follows:

• $6,000 up to age 49
• $7,000 for age 50+ (with $1,000 catch-up contribution)
   

If you have an HSA (health savings account), consider maxing out contributions to that account as well (currently $3,650 for individuals, $7,300 for families and an additional $1,000 for individuals age 55+).

Take action: Can’t make the maximum contribution to your 401(k)? Try at least to contribute the amount your employer is willing to match. All 401(k) contributions must be made by December 31 for that calendar year. However, you have a few extra months to make contributions to IRAs and HSAs, up until the tax filing deadline in April.

3.  Take any RMDs from traditional retirement accounts (if you’re age 72 or older)

All employer-sponsored retirement plans, traditional IRAs and SEP and SIMPLE IRAs mandate required minimum distributions (RMDs) by the April 1 that follows the year you turn 72. Thereafter, annual withdrawals must happen by December 31 to avoid the penalty.*

RMDs are considered taxable income. If you don’t take the RMD, you face a 50 percent excise tax on the amount you should have withdrawn based on your age, life expectancy, and beginning-of-year account balance.

Take action: Take your RMD by December 31. Once you turn 72, you must take your first withdrawal on or before April 1 the following year to avoid penalty.

If you don’t need the cash flow and would prefer not to increase your taxable income, you may want to consider a Qualified Charitable Distribution (QCD), directly from your qualified account to a public charity. However, you won’t get the charitable contribution itemized deduction. QCDs are limited to $100,000 per year. Different from rules governing RMDs, you can make a QCD gift as early as age 70 ½ if you’re charitably inclined..

4.  Consider a Roth IRA conversion

While eligibility to open and contribute to a Roth IRA is based on income level, you can convert some or all of the assets in a traditional IRA or workplace savings plan (e.g., 401(k)) to a Roth IRA. Roth IRAs can play a valuable role in your retirement portfolio; unlike traditional IRAs, Roth IRAs are not subject to income taxes at the time of withdrawal in retirement. This can give you more flexibility to manage your cash flow and future tax liability.

Converting qualified assets, such as 401(k) or traditional IRA assets, to Roth IRA assets is considered a taxable event during the conversion year. Any pre-tax contributions and all earnings converted to the Roth IRA are added to the taxpayer’s gross income and taxed as ordinary income. 

Take action: Talk with your tax advisor or Lane Hipple to determine if a Roth conversion is right for you. If you move forward with a conversion, try to manage the tax impact. One strategy is to convert amounts only to the level where you remain in your current tax bracket. You can utilize partial Roth IRA conversions over a period of years to manage the tax liability.

5.  “Harvest” your investment losses to offset your gains

Tax-loss harvesting is a strategy by which you sell taxable* investment assets such as stocks, bonds, and mutual funds at a loss to lower your tax liability. You can apply this loss against capital gains elsewhere in your portfolio, which reduces the capital gains tax you owe.

In a year when your capital losses outweigh gains, the IRS will let you to apply up to $3,000 in losses against your other income, and to carry over the remaining losses to offset income in future years.  

The goal of tax-loss harvesting is to potentially defer income taxes many years into the future — ideally until after you retire, when you’d likely be in a lower tax bracket. This process lets your portfolio grow and compound more quickly than it would if you had to take money from it to pay the taxes on its gains.

Take action: Tax-loss harvesting requires you to diligently track tax loss across a portfolio, as well as monitor market movements, since the chance for tax-loss harvesting can occur at any time. Lane Hipple can help you identify any losses you can use to offset any gains.

*Note: Tax-loss harvesting does not apply to tax-advantaged accounts such as traditional, Roth, and SEP IRAs, 401(k)s and 529 plans. 

6.  Think about “bunching” your itemized deductions

Certain expenses, such as the following, can be classified as “itemized” deductions: 

• Medical and dental expenses
• Deductible taxes
• Qualified mortgage interest, including points for buyers
• Investment interest on net investment income
• Charitable contributions
• Casualty, disaster and theft losses
   

In order to itemize, your expenses in each category must be higher than a certain percentage of your adjusted gross income (AGI). For example, let’s say you’d like to itemize your medical expenses. For the current tax year, the threshold for itemizing medical expenses is 7.5% of your AGI. If your medical expenses total 5% of your AGI, it wouldn’t be beneficial to itemize.

“Bunching” is a way to reach that minimum threshold. In this example, you could delay 2.5% of your expenses to the following year. And then you’d be more likely to reach the minimum 7.5% AGI that next tax season, allowing you to itemize.

Take action: If you’ve been waiting on certain medical and dental expenses or charitable contributions, you might want to group these expenses to take the most advantage of itemizing the deductions.

7.  Spend any leftover funds in your flexible spending account (FSA)

FSAs are basically bank accounts for out-of-pocket healthcare costs. An FSA earmarks your pre-tax dollars for medical expenses, lowering your taxable income.

When you tell your employer how much of each paycheck to set aside for your FSA, remember you’ll pay taxes on any funds still in the account on December 31*. Plus, you’ll lose access to the money unless your employer allows a certain amount in rollovers for the next calendar year.

Take action: Schedule any last-minute check-ups and eye exams by December 31. Fill prescriptions for you and your family. Still carrying a balance? Stock up on items approved for FSA spending (e.g., contact lenses, eyeglasses, bandages).

*Note: Some employers give you until March of the following year to use your FSA dollars.

With a little planning before the year ends, you can be better prepared for the upcoming tax season.

Take Action

If you think you would benefit from a conversation about year-end tax planning, contact Lane Hipple in Moorestown, NJ by calling 856-638-1855, emailing info@lanehipple.com, or to schedule a complimentary discovery call, use this link to find a convenient time.