The maxim “No good thing lasts forever” applies to retirement plans - traditional IRAs, SEPs, 401Ks, 403(b)s, 457(b)s, profit sharing and other defined contributions plans. When the owner turns 70 ½, he or she must make annual minimum distributions from the account by April 1 of the following year. This date is referred to as the required beginning date, while each mandated withdrawal is called a required minimum distribution (RMD).
How is the annual RMD calculated?
The annual RMD is calculated by dividing the account balance at the end of the year preceding the year for which the RMD must be made by the distribution period (the life expectancy) based on the applicable of the three life expectancy tables provided by the Internal Revenue Service (IRS). Of course, if a contribution is made to a plan during a year, it will increase the amount for that year. The RMD (and any additional distributions made during the year) will have reduced the amount for that year.
Single Life Expectancy (Table I) is applied by a beneficiary who is an individual other than the surviving spouse as sole beneficiary or the beneficiary who is not an individual. when the owner died on or after the required beginning period for making RMDs. The beneficiary uses his or her age in the year the beneficiary and must make an RMD, usually during the year following the owner’s death. For each year thereafter, the beneficiary uses the life expectancy reduced by 1.
The surviving spouse named as the sole beneficiary of the account also uses Table I when not electing to treat the account as his or her own. However, if the owner was not 70 ½ at death, the surviving spouse does not have to make RMDs until the year in which the owner reached 70 1/2.
Joint and Last Survivor Table (Table II) is used by the owner of an account whose spouse who is more than 10 years younger than the owner and who is the sole beneficiary.
To illustrate this situation, the IRS in Publication 590-B, “Distributions from Individual Retirement Arrangements (IRSs)” offers the example of an owner whose IRA account balance at the end of 2015 is $100,000. The owner turns 75 in 2016 while his wife, named as sole beneficiary of the account, is 64. According to Table II, their joint life and last survivor expectancy is 23.6 years. Therefore, the owner’s RMD for 2016 will be $4,237 ($100,000 ÷ 23.6).
Uniform Life Table (Table III) is used by the owner whose spouse is both not the sole beneficiary and not more than 10 years younger than the owner.
The IRS Publication 590-B, “Distributions from Individual Retirement Arrangements (IRAs),” offers the following example for calculating the RMD in the first year a distribution is required for a single individual using Table III:
Laura, whose birthday is October 1, reaches 70 ½ in 2015. Her required beginning date is April 1, 2016. She must calculate her RMD based on the balance in her account at the end of the year before she turns 70 1/2. As of December 31, 2014, her IRA balance was $26,500. The distribution period for her age (71), according to Table III, is 26.5 years. Her RMD for 2015 is $1,000 ($26,500 ÷ 26.5).
Special rules Re: RMDs for beneficiaries of a retirement plan
The rules for determining the RMD a beneficiary of an IRA must make depend upon whether (1) the beneficiary is the surviving spouse; (2) the beneficiary is an individual other than the surviving spouse; (3) the beneficiary is not an individual, such as the estate or other entity; and (4) the IRA owner died before the required beginning date or died on or after the required beginning date.
Special rules for spouses as sole beneficiary
When the owner of the retirement account dies after the date RMDs are required, spouses who are the sole beneficiary have the option to (1) treat the plan as their own; (2) base the RMDs on their own current age; or (3) base the RMDs on the decedent’s age at death, reducing the distribution period by one each year. If the owner dies before RMDs are required, the surviving spouse as sole beneficiary can wait until the owner would have turned 70 ½ to begin RMDs or withdraw the entire account balance at the end of the 5th year following the owner’s death.
Application of the five-year rule
The beneficiary will need to review the plan documents or consult the custodian or trustee for proper application of the 5-year rule. Most plans require individual designated beneficiaries to take RMDs using the life expectancy rules unless such beneficiaries elect to take under the 5-year rule requiring the beneficiary to distribute the entire remaining plan proceeds by December 31 of the fifth year after the owner’s death. The 5-year rule applies in all instances in which the beneficiary is not an individual.
Assistance in applying RMD rules advised
Trying to decipher the IRS publications regarding rules for determining the RMD in the most simple situations is not easy. The rules are even less transparent when the circumstances are more complex. For instance, the rules triggered by divorce during a year in which an RMD is required can be challenging. In circumstances as complicated as when a spouse inherits, then remarries, and the second spouse dies, the average person will likely find the examples confusing and frustrating. Regardless of the circumstances, getting expert assistance from an attorney, and/or an accountant, plan administrator or plan custodian, is definitely advised to avoid the strict penalties applied when RMDs are not made timely and with accuracy.
Sandra W. Reed is an attorney with Katten & Benson, an Elder Law firm, whose principal office is in Fort Worth, Texas. She lives and practices in Somervell County. If you have questions or concerns, please contact her by email at firstname.lastname@example.org or by phone at 254.797.0211.