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RMDs are Back

RMDs are Back

In today’s blog, Tom reminds tax professionals who have clients that need to take RMDs that they are not waived in 2021 the way they were last year. Tom also discusses the new RMD age requirements under the SECURE Act and the interplay between post-age 70 ½ IRA contributions and QCDs.

by Tom O’Saben, EA


Hello again everybody, from the University of Illinois Tax School. This is Tom O’Saben. I’m an enrolled agent, I am the Assistant Director for Professional Education and Outreach for Tax School. I’m a fall Tax school instructor, and an author and reviewer of the University of Illinois Federal Tax Workbook. I do these weekly blogs and I’m also heavily involved in the webinar series that we provide throughout the year. In addition, I’m also a tax practitioner like you and we made it folks! We got past May 17th, I’m sure you have an awful lot of extensions to do, as I do as well. And what I’m hoping to do now is after you’ve had a chance to take a breath, we’re going to talk about some of the things that we need to consider in planning with our clients for 2021 and really beyond.So the first thing that I want to talk about or the thing that I want to talk about today is actually dealing with required minimum distributions from qualified plans, RMDs. We easily forgot about those since in 2020 they were waived, but they’re back again. But ladies and gentlemen, thanks to all the law changes we’ve had, they’re back with a twist. So tax season is over as I mentioned, now our clients are wanting some planning. All of these law changes that have that have happened, yes, I know there’s more to come, we have to kind of digest those and help translate those to our clients. And that’s why I thought the RMD issue was a good one to begin with because it has changed so much since all of the law changes, which began in December of 2019. And then of course, we know how many law changes there were over the past 12 to 14 months. So let’s talk about RMDs, again, required minimum distributions.

The first point I want to make is yes, for last year they were waived, all RMDs were waived. Even those individuals who for example, maybe had an inherited IRA that had a required minimum distribution, people who had turned age 70 and a half and perhaps were waiting until April 1st of the year after they turned age 70 and a half those were waived. All RMDs were waived in 2020. In fact, you might recall that we have some taxpayers who are over age 70 and a half that they would take their distributions early in the year. The first guidance we received in 2020 was that those individuals were stuck because they took the distributions before the CARES Act came out in March of 2020. Seems just like yesterday, doesn’t it? Well, we know that there was a law change, or revenue ruling I should say, which gave those individuals the opportunity to put the money back as long as they did it by August 31st of 2020. So now that’s ancient history. And the waiver, if you want to know again, what caused the waiver in RMDs, if you want to go to chapter and verse, it’s part of the CARES Act, Section 2203, as I have here for you on the slide.

Well, the other point that came along actually happened all before the pandemic happened, the Secure Act, you may recall that December of 2019, Donald Trump is still president United States. The Secure Act comes out and makes the first change, we saw really two big ones, which we’ll talk about in this section. What’s the first thing that the Secure Act did? It changed the RMD age from 70 and a half to age 72, that’s Section 113 of the Secure Act. So let’s talk about the Secure Act changes in more detail, kind of refreshing your memory and that will help you plan with clients in our post 2020 tax season world. Okay, the first point to remember, those taxpayers who were already 70 and a half by December 31st of 2019, the old rules still apply. It’s not a circumstance where they had to start RMDs and now they could stop them. No, they are stuck with doing RMDs, except in 2020 because they were waived for anybody. If the taxpayer was under age 70 and a half as of December 31st of 2019 those are the folks that the new RMD age applies to, which is age 72. And here’s another change that the Secure Act did, it also permits people who are still working after age 70 and a half to contribute to IRAs. You may recall that old rules said that yeah, if you were working and you had a 401(k) plan available, for example, you could contribute to that, but you weren’t permitted to contribute to IRAs, along with being in the age group that says you have required minimum distributions. But here’s kind of another kind of a rub that didn’t make any sense to me, you have someone now who is over age 70 and a half the Secure Act says hey, are you still working, you can contribute to IRAs, continue to contribute to IRAs, but you still also have to take RMDs. So unlike the 401(k) plans or 403(b) plans that persons who are over the required minimum distribution age can still make contributions to, those are even calculated in what an individual has to take for an RMD. But in the IRA world, yes, they can make contributions, but they also have to calculate an RMD from that same amount. Contributing on one hand, taking it out on the other, very complicated, but nonetheless, that’s the way to Secure Act works. So let’s talk about then for someone, therefore, who turned age 72 by December 31st 2019. RMD now applies, not 70 and a half, age 72. They could still use April 1st after the year they turn age 72, much like the 70 and a half people used to be able to do and it’s waived off for 2020 like we mentioned here, thanks to the CARES Act. So we had until April 1st of the year after they turn age 72, but what happens then in that year is they are going to make two distributions, that rule has not changed, but again, we’re talking about 2021.

Now, the other thing that changed on RMDs, is the fact that we have new life expectancy tables, I gave you a link here that you can go ahead and copy and paste into your browser to take a look for yourself. But what it’s done is it’s taken into consideration the fact that people are living longer. So here I gave you a carve out of the chart, for example, and I just took ages 72 through age 80. You might see what we call the divisor at age 72 is 27.4 years. In other words, based on actuarial tables, someone who’s 72 is projected to live another 27.4 years. So you take the balance of those IRAs divided by 27.4 and that’ll give you the RMD for that year. By the way, I want to mention and why I thought this topic was very timely for now is that let’s not forget RMDs, it was easy to do because of them being waived off in 2020. I have seen nothing where there’s even any discussion about waiving off RMD requirements for 2021. And that being said, for those taxpayers who don’t take an RMD, there is a 50% penalty, so it is severe, so that’s why I thought this planning was very timely.

The other thing I want to talk about is qualified charitable distributions. This became a really, really powerful planning tool with the advent of the Tax Cuts and Jobs Act. Remember again, 2018 Donald Trump is president of the United States, what was one of the biggest impacts, that nearly doubling of standard deductions. So we looked at people who were in RMD years and said, hmm, you give money to charities- your church, United Way, St. Jude, whatever it might be and you have to take money out of your IRA. So with the new higher standard deductions, a lot of people aren’t able to benefit from itemized deduction, so that contribution to St. Jude isn’t going to be deductible and we got a taxable IRA distribution. So qualified charitable distributions, which aren’t new, by the way, but they certainly became a more powerful planning tool. And prior to the Secure Act, what we were advising was, here’s the situation and let me just kind of refresh your memory a little bit about qualified charitable distributions. Someone has to be an RMD years, that’s number one, you can’t have a 50 year old unless they have an RMD. You can’t have a 50 year old go ahead and do a qualified charitable distribution. By the way, I think the the law actually says they have to be over age 70 and a half, so that 50 year old I just alluded to, even if they have inherited IRA would not qualify for a QCD. Okay, so first of all, in RMD years, at least age 70 and a half. By the way, I haven’t seen any change in the law that changed the age beyond age 70 and a half, so keep that in mind. So we’re gonna say 70 and a half. Could do $100,000 per year. And so the way that works is and this is key, the taxpayer tells the IRA custodian to send money directly to the qualified charity say again, St. Jude Children’s Hospital. And that’s the key, you can’t take the money out and then write a check, what you have then is a distribution, taxable, and then you have a contribution, maybe no tax benefit if you’re not able to itemize deductions, so instruct a custodian to send the money directly to the charity. What happens? It counts toward RMD, you don’t have to do the whole RMD, in fact, you do more, you can do $100,000 per year if you please. It counts for the RMD, so it’s not includable in taxable income, but you don’t get a charitable contribution in return. So I think that’s important to remember. Now what happens is we have the Secure Act. Remember I mentioned that people who are in RMD years, if they’re still working, can make a contribution to their IRA after age 70 and a half. Now, here again, is the rub. If we’re making contributions to traditional IRAs after 70 and a half, that is going to have an impact on what can qualify for the money’s going to a QCD or being sent out, I should say, via a QCD.

Let me throw an example out to you. So we got someone who’s 72 years old, they go ahead and contribute $7,000 to a deductible IRA, they’re still working. Then the next year, they do $7,000 again, so they’ve put $14,000 in traditional IRAs, after age 72. Now then, the following year, they want to do a $10,000 qualified charitable distribution. Well, the first thing that’s going to happen is we have to subtract off any deductible IRA contributions that were made after RMD or in RMD years first. So in this example, we have $14,000 of deductible IRAs that were made after they turn 72. The amount of that $10,000 qualified charitable distribution, which will be tax free is zero. So there are two kind of side calculations we have to do. The $10,000 qualified charitable distribution, that’s still going to St. Jude Children’s Hospital, sure. So maybe we’ve got an itemized deduction for that, but we don’t have a tax free event. So we have $10,000 to include in income, but you need to do a separate side calculation, which says, okay, out of that $14,000, that post of post age 70 and a half contributions that were made, there’s $4,000, remaining. $14,000 minus the $10,000. Okay and we’re going to make an assumption here in our example, that the taxpayer didn’t make any more IRA contributions in these post 70 and a half years. So let’s go on with the example. In the next year, the taxpayer wants to send $10,000 again to a qualified charity, instructs the custodian, hey send $10,000, I keep using St. Jude’s Children’s Hospital, maybe it’s because of all the commercials, they always run. So what happens here is remember, we did a side calculation and I’m hoping we’re going to be able to do this, maybe on Form 8606, or something like that, or make some kind of notes that will be able to track those post age 70 and a half IRA contributions, remember, there was $4,000 of those still laying around. So $4,000 of that qualified charitable distribution, won’t be tax free. $4,000 has to be included in income, $4,000, then could also be a potential itemized deduction, probably not, but nonetheless, there’s a potential. So now the post 70 and a half IRA contributions to a traditional IRA are accounted for, we have $6,000 remaining, that $6,000 will in fact be a qualified charitable distribution, not included in income, counts towards the RMD that’s needed, no deduction for it. So you see what happens with this impact of the Secure Act with QCDs and IRA contributions.

So what’s the moral of the new rule? Any deductible contributions to an IRA made after age 70 and a half reduce any potential QCD first, that’s the first thing we have to do. Ask about contributions made for that individual who’s over age 70 and a half, if they want to send money to a qualified charity, we have to reduce the amount of that qualified charitable distribution, doesn’t say they can’t do it, they just can’t treat it as a qualified charitable distribution, then the remainder will be the tax free part. Here’s a planning idea. If your client is still continuing to work, maybe they should contribute to a ROTH IRA. You know, we could spend a whole session talking about how do you feel about tax rates today? Do you feel that perhaps they are the lowest they will ever be? So does it make sense in the current environment to make a contribution to a deductible IRA and perhaps have the savings be at 10% or 12%, then later on when we have to take money out, is it possible that tax rates will be higher? I’ll be honest with you, I wasn’t always a fan of ROTH IRAs, but in this environment I think that maybe it makes sense to pay tax now, as opposed to paying higher rates down the road. A whole other idea for you to talk about with your taxpayers.

So what are the takeaways from this session that we had today? RMD requirements are back in 2021, as I am talking to you today, they are not waived. Qualified charitable distributions are still a powerful planning tool with those standard deductions being so high. IRA contributions can be made after age 70 and a half for those individuals who are still working, but now we have that interplay between the post age 70 and a half IRA contributions and individuals wanting to do those qualified charitable distributions. We’re gonna have to do some planning and we’re going to have to do some calculations. So ladies and gentlemen, I thought the RMDs being back are so important to talk about because of the fact of the penalty I described earlier, can be as high as 50% of the amount that was supposed to be withdrawn. Remember all the people who forgot to do their RMDs when there was a requirement to do it every year? That’s why I thought it was so important to do today. Keep your eyes and ears open, we will keep you updated as new rules come along, there has been talk of a Secure Act 2.0. Hold on, we’ll let you know when something like that does come along, but in the meantime, I don’t like to talk about speculation until it becomes reality. So we got enough to deal with. Take some time off in the summertime, enjoy the sunshine, enjoy the warm temperatures, take some time for you, and we’ll be here for you. So for all of us here at the University of Illinois Tax School, this is Tom O’Saben saying we’ll say goodbye for just a while.

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