Employee Benefits FAQs on Required Minimum Distributions

7/18/2013

1. What are RMDs, and when does a retirement plan participant/IRA owner begin withdrawing RMDs?

Required Minimum Distributions “(RMDs”) are amounts that the Internal Revenue Service (“IRS”) compels a retirement plan participant or individual retirement account (“IRA”) owner to withdraw annually from a retirement plan or IRA account starting at a designated “required beginning date.”  RMDs exist to prevent indefinite tax deferrals.

RMDs are subject to federal income taxes and are taxed at ordinary rates. In addition, RMDs may be subject to state tax depending on state law.  The RMD rules apply to all employer-sponsored retirement plans, including, but not limited to, pension plans, profit-sharing plans, 401(k) plans, 403(b) plans, and 457(b) plans. The RMD rules also apply to traditional IRAs, SEP IRAs, and SIMPLE IRAs.  Roth IRAs are the only exception – they do not require RMDs because distributions from them are tax-exempt.

The required beginning date upon which an IRA owner must begin withdrawing RMDs is April 1 of the year following the year in which the IRA owner turns age 70 ½. The required beginning date for a participant in an employer-sponsored plan is generally April 1 of the year following the later of (1) the year in which the plan participant turns age 70 ½ or (2) the year in which he or she retires.  However, a plan participant who owns at least five percent of the business that sponsors the plan does not have the option to defer withdrawing RMDs until the year of retirement; rather, he or she must begin taking RMDs upon reaching age 70 ½.  A plan participant’s ownership status is locked in at his or her required beginning date. 

Although the first RMD is not due until the April 1st following age 70 ½ or retirement, subsequent RMDs are due each December 31st.  If a plan participant chooses to take his or her first RMD on April 1st, the participant must still take his or her second RMD on or before December 31st of the same year.  Therefore, plan participants may wish to consider whether to delay receiving their first RMD until April 1, as receiving multiple RMDs in the same year could trigger a tax bracket increase.

2. (a) How are RMD amounts calculated?

RMDs for defined benefit plans are generally the amounts a participant is to receive under the benefit formula.  RMDs for defined contribution plans and IRAs are calculated by dividing the prior December 31st account balance by an applicable life expectancy factor.  IRS Publication 590 provides three life expectancy tables that are to be used to calculate RMDs. The Joint and Last Survivor Table is used when an IRA owner or plan participant has designated a spouse as the sole beneficiary and the spouse is more than ten years younger than the IRA owner or plan participant. The Uniform Life Table is used for all other IRA owners or plan participants and is the most commonly used table.  The Single Life Expectancy Table is used solely by beneficiaries who have inherited retirement accounts. 

Marital status is determined on January 1st of each year.  Therefore, even if a participant is later divorced or his or her spouse dies, the participant is deemed married for RMD purposes if married on January 1st. 

If an IRA owner or plan participant withdraws an amount in excess of a year’s RMD, the excess amount cannot be applied to the RMD due in a subsequent year. However, any amounts withdrawn in the year that an IRA owner or plan participant turns age 70 ½ or retires are applied towards the amount due on April 1st of the next year.

Although an IRA custodian or plan administrator may calculate RMDs, the IRA owner or plan participant is responsible for withdrawing the correct RMD amount. He or she may be required to pay a 50% excise tax on the portion that was not correctly withdrawn. 

2. (b) How are RMDs calculated when a taxpayer has more than one account?

An IRA account owner must calculate RMDs separately for each account, but may withdraw the total RMD amount from one IRA account.  The same rule applies to 403(b) accounts. However, for other employer-sponsored retirement plans, such as 401(k) and 457(b) plans, RMDs are to be withdrawn separately from each plan.   

3. What consequences do plan participants and plan sponsors face after failing to withdraw full and timely RMDs?

Under Section 4974 of the Internal Revenue Code, the IRS may require an IRA owner or plan participant to pay a 50% excise tax when he or she fails to withdraw a timely or complete RMD.  This penalty is to be paid in addition to any federal and state income taxes.  By way of example, suppose a plan participant’s RMD is $4,000 for one calendar year and the plan participant withdraws only $2,000.  As a consequence of the error, the plan participant may be required to pay a 50% tax on the $2,000 underpayment.  The IRS may, however, waive the entire excise tax or reduce its amount if the plan participant can demonstrate to the IRS that his or her incomplete RMD resulted from a reasonable cause and that he or she took reasonable steps to correct the error as soon as it was discovered.  To petition for such relief, a participant must complete Form 5329 and attach it to his or her tax return. 

Although the plan sponsor is not subject to the 50% excise tax, the plan itself could lose its tax-qualified status as a result of RMD errors, resulting in significant tax consequences to the plan sponsor and the participants. Due to the frequency of plan errors, the IRS has implemented the Employee Plans Compliance Resolution System (EPCRS), under which certain plan errors, including RMD errors, may be corrected. Pursuant to EPCRS, a plan may correct RMD errors by paying the missed RMD plus interest from the date of the missed RMD to the date of distribution.  The plan sponsor may also pay a fee to the IRS and request a waiver of the excise tax on behalf of all affected participants as part of EPCRS’s Voluntary Correction Program (VCP).  If the RMD error involves 50 or fewer participants, the VCP fee is $500. For errors involving more than 50 participants, the VCP fee depends on the number of participants in the plan and ranges from $750 to $25,000.    

4. What are the RMD rules for retirement accounts and IRAs that are inherited?

The RMD rules for inherited retirement accounts or IRAs vary depending upon the age of the original account owner at his or her death and also the type of beneficiary. For the year in which the original account owner died, the RMD amount is what the original owner would have been required to withdraw.  However, in the years following the original account owner’s death, the individual beneficiary has the choice of using either the five-year exception method or the life expectancy method to calculate RMDs.  Under the five-year exception method, the beneficiary does not have to begin withdrawing RMDs at a specific time, but must deplete the entire account by December 31st of the fifth year following an original account owner’s death.  Under the life expectancy method, the beneficiary must withdraw minimum amounts based upon his or her own life expectancy when the original account owner died before his or her required beginning date.  However, when the original account owner died after his or her required beginning date, the beneficiary may base RMDs upon either his or her own life expectancy or the original account owner’s life expectancy at death, whichever is longer.  A surviving spouse who is the sole beneficiary of an account may choose to (1) become the owner of the inherited retirement account or IRA and base RMDs upon his or her own life expectancy, (2) remain listed as a beneficiary and base RMDs upon the deceased spouse’s life expectancy, or (3) withdraw the entire account balance by the end of the 5th year following the deceased spouse’s death.  Furthermore, if the original account owner died before his or her required beginning date, the surviving spouse can defer withdrawing RMDs until the year that the original account owner would have turned 70 ½ years of age.   

If you have any questions, please don’t hesitate to call Bill, Kathy, or Brittany at (865) 546-7311 or email us at wemson@kmfpc.com, kaslinger@kmfpc.com, or atrotto@kmfpc.com.


Kennerly Montgomery is a general practice law firm that has provided legal advice to clients for almost 100 years. KM attorneys practice in a variety of areas, representing municipal clients, including local governments, agencies and public utilities. Bill Mason, Kathy Aslinger, and Ashley Trotto practice extensively in employee benefits law, which includes design, documentation, administration, audit, litigation, termination and qualification of employee health and welfare and pension plans for public, tax-exempt and private employers. The Firm sponsors various prototype retirement plans and prepares both interim amendments and discretionary amendments for all plan types as well as counsels with fiduciaries on ERISA and Federal & state law obligations. They also represent clients before various agencies regulating employee benefits.


©2014 Kennerly, Montgomery & Finley, P.C. This publication is intended for general information purposes only and does not constitute legal advice or a legal opinion and is not an adequate substitute for the advice of legal counsel. 


KENNERLY, MONTGOMERY & FINLEY, P.C.
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P.O. BOX 442 | KNOXVILLE, TN 37901
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