Unless you’re a CPA or a tax attorney, understanding IRS rules can be a bit like peeling back the layers of an onion—it takes patience and there may be tears along the way.
Such is the case with newly proposed rules around—take this onion and peel it—required minimum distributions (RMDs) for certain IRAs inherited after 2019.
This past February, the IRS released proposed regulations regarding how the 10-year rule established under the SECURE Act of 2019 was meant to be applied to certain IRAs.
Apparently it was not what many thought.
Origins of the 10-Year Rule
Let’s rewind a few years to understand what’s going on here.
After the SECURE Act was passed in 2019, it was commonly believed certain beneficiaries of inherited IRAs would have 10 years to distribute their inherited IRA.
This became known as the 10-year rule.
Under this rule, IRA beneficiaries could choose how to distribute the inherited funds. They could wait until the end of the 10-year window to withdraw the entire balance (allowing for tax-deferred growth), withdraw equal amounts each year to smooth out taxable income, or even strategically withdraw more in lower income years and less in higher income years.
It all seemed pretty straightforward.
Oh Hello, At Least as Rapidly (ALAR) Rule—We Thought You’d Gone
But it wasn’t—or at least it wasn’t meant to be.
That’s because the IRS never intended to allow beneficiaries to “pause” RMDs if the original IRA account owner had already started taking them.
This brings us to present time. To clarify the intended spirit of the law, the IRS proposed new guidance this spring known as the “at least as rapidly” (ALAR) rule.
Ironically, this “new” rule is actually an old rule because it was always in the tax code for RMDs—but most people assumed it was no longer relevant after the dawning of the 10-year rule.
Does the ALAR Rule Apply to Me?
While the ALAR rule has yet to be finalized, it likely will be at some point. If you have an inherited IRA, you might be wondering if the new rule applies to you.
It will, if you are a non-eligible designated beneficiary (more about that in a moment) and both of these statements are true:
- The original IRA account owner died after December 31, 2019, and
- Prior to their death, the original account owner had reached their required beginning date (RBD) and had started taking RMDs. (You might recall the SECURE Act changed the RBD for RMDs from 70 ½ to 72 beginning in 2020.)
If you are a non-eligible designated beneficiary and these conditions apply, you would need to take RMDs in Years 1-9 (based on your own life expectancy) and withdraw the entire account balance by the end of Year 10.
If the original account owner had NOT started taking RMDs, you would NOT need to take RMDs in Years 1-9 but you WOULD need to withdraw the full account balance by the end of Year 10.
Defining a Non-Eligible Designated Beneficiary
So who falls into the non-eligible designated beneficiary group?
In short, any individual who does not meet the definition of an eligible designated beneficiary.
Eligible designated beneficiaries include:
- Surviving spouse
- Minor child of decedent (under age 21)
- Disabled person
- Chronically ill person
- Someone not more than 10 years younger than the decedent (in other words, someone who is older than the decedent or close in age)
Bottom line: If you don’t fall into one of these categories, you are a non-eligible designated beneficiary. Common examples of non-eligible designated beneficiaries include adult children, grandchildren, and certain trusts.
Those Who Will NOT Be Affected by the New Rule
Simply put, if you inherited an IRA before 2020, you are NOT subject to the 10-year rule or the proposed ALAR rule.
If you are an eligible designated beneficiary who inherited an IRA after 2019, you are allowed to “stretch” your RMDs using your own life expectancy and are not subject to the 10-year rule or the ALAR rule. (One caveat: a minor child can only “stretch” their RMDs until they turn 21 – at which point they become subject to both the 10-year rule and to the proposed ALAR rule.)
Finally, if you are a beneficiary of a Roth IRA, you are not subject to the proposed ALAR rule. However, inherited Roth IRAs do have RMDs. For Roth IRAs inherited before 2020, annual RMDs are required and they can be “stretched” over the beneficiary’s lifetime. The 10-year rule applies to Roth IRAs inherited after 2019.
Advice for Navigating the Proposed RMD Rule
Your Vista team is happy to help you determine if the ALAR rule applies to your inherited IRA.
If you are not already planning to take a distribution from your inherited IRA this year, we recommend waiting to hear if and when the proposed ALAR rule is finalized.
If you are planning to take a distribution from your inherited IRA this year, your Vista team can calculate your 2022 RMD under the proposed ALAR rule to help inform your decision-making.
Worth noting: The IRS has not yet indicated whether they will require any “missed” RMDs to be retroactively taken for 2021. We recommend holding off on this for now, in hopes the IRS will waive the 50% penalty or provide further guidance later in the year.