IRS Regulations Clarify More of SECURE Act, SECURE Act 2.0

The IRS is filling gaps, fixing glitches and answering questions about the SECURE Act and SECURE Act 2.0, and about required minimum distributions (RMDs) in general.

Last month, I discussed details in the final regulations regarding the end of the Stretch IRA, the 10-year rule and related issues.

The final regulations contain more details about the recent laws, and the IRS also issued proposed regulations that explain other recent changes in IRAs and other retirement plans.

Here are some key questions resolved by the regulations. Recent laws changed the beginning age for RMDs several times, from 72 to 73 and then to 75, depending on the year of a person’s birth. Congress made a mistake in the changes, because those born in 1959 were listed as starting RMDs at 73 in one tax code section and 75 in another section.

The proposed regs say the starting age for RMDs for those born in 1959 is 73.

As was the case before the SECURE Act, for all traditional retirement accounts, the RMD for the year of the owner’s death must be taken. Under the regulations, if the original owner didn’t take the RMD before passing away, the beneficiary (or any beneficiary if there are multiple beneficiaries) must take the RMD by the end of the year of death, using the same life expectancy schedule the deceased owner used. The RMD will be included in the beneficiary’s gross income.

An employee’s retirement account, including a 401(k) or IRA, can purchase an annuity. When less than the entire account is in an annuity and the account owner must take RMDs, the RMD mandate doesn’t have to be satisfied separately for the annuity and non-annuity portions of the account.

Instead, the account owner can elect to satisfy the aggregate RMD by taking the RMD from either the annuity or non-annuity portion or a combination of both. When the annuity makes distributions to the account owner, those payments will be part of the year’s RMD.

To determine the RMD, the fair market value of the annuity contract on December 31 of the preceding calendar year is determined using a valuation method prescribed in the regulations. The annuity sponsor, 401(k) administrator, or IRA custodian should conduct the valuation and inform the account owner.

Before the SECURE Act 2.0, the original owner of a Roth 401(k), technically known as a designated Roth account, was subject to lifetime RMDs, though the owner of a Roth IRA wasn’t.

As made clear in the regulations, the SECURE Act 2.0 eliminated the difference. Now, the original owners of both types of Roth accounts aren’t subject to RMDs.

Related to that, the regulations state that when an employee has both traditional and Roth 401(k) accounts, the balance in the Roth 401(k) is ignored when computing the RMD from the traditional 401(k).

Likewise, when the employee must take an RMD, a distribution from the Roth account during the year doesn’t count toward the RMD for the traditional account.

A distribution from the Roth 401(k) can be rolled over to a Roth IRA tax free, since it isn’t part of an RMD.

A special case is when someone has both traditional and Roth 401(k) accounts, is past the beginning RMD age, but hasn’t taken an RMD because she still is working for the employer.

In the year that person retires, an RMD must be taken for that year. If at any time after retiring the account owner wants to rollover the traditional 401(k) to an IRA, the RMD for the year must first be taken from the 401(k). The remainder of the account can be rolled over tax free to a traditional IRA.

With the Roth 401(k), no RMD is required, so the entire account can be rolled over to a Roth IRA tax free.

The regulations have a surprise for a beneficiary when the deceased employee had both traditional 401(k) and Roth 401(k) accounts with the employer.

Remember from last month that when the owner of a traditional IRA dies after the beginning date for RMDs, the beneficiary must take RMDs during years one through nine after inheriting the IRA and empty the IRA by the end of year 10. But the annual RMD rule doesn’t apply to a Roth IRA. The only requirement is that the inherited Roth IRA be emptied by the end of year 10.

The rule is different when the deceased individual had both traditional and Roth 401(k) accounts and was past the beginning date for RMDs at the time of death. Then, under the regulations, the beneficiary must take RMDs from both accounts during years one through nine.

If the deceased employee had only a Roth 401(k), then only the 10-year rule applies. If the individual still was working for the employer at the time of death and had a traditional 401(k), only the 10-year rule applies since the employee wasn’t taking RMDs at the time of death.

The regulations also provide an important break for those interested in putting qualified longevity annuity contracts (QLACs) in their IRAs.

The new regulations state that the IRA can make a tax-free rollover of funds from one QLAC to another QLAC. So, if the IRA owner is dissatisfied with the first QLAC purchased, the money can be moved to a more desirable QLAC without adverse tax consequences.

For more details about QLACs, see our August 2023 issue.