Congress has come up with what some are calling SECURE 2.0, or Son of SECURE — a bill entitled Securing a Stronger Retirement Act that includes many positive changes to encourage retirement savings.
However, one seemingly pointless proposal in the legislation would raise the required minimum distribution age from 72 to 75 over 10 years. Most advisers might argue that consumers will probably love this. After all, isn’t delaying RMDs a good thing? No.
First, some statistics. In the explanation of the Proposed RMD / Life Expectancy Table Regulations issued by the IRS in 2019, the Treasury Department said only about 20% of those who are subject to RMDs take the minimum amount, which means that the remaining 80% take more, because they need the funds. Delaying RMDs would only help the 20% who don’t need the money.
Last year, the CARES Act waived RMDs as a result of the Covid-19 pandemic, but again, this only helped those who didn't need the money. Telling people who need the RMD funds that they don’t have to take the withdrawals is meaningless — they need the money.
But even those who don’t need the funds may not fare well in the long run by delaying RMDs to a later age.
In the SECURE Act, Congress eliminated the stretch IRA (the extended post-death tax deferral for non-spouse beneficiaries), saying that retirement funds should be used for retirement, not as a wealth transfer or estate planning vehicle for future generations. The legislation replaced the stretch IRA with a 10-year rule for most non-spouse beneficiaries, such as adult children and grandchildren.
The SECURE 2.0 proposal would delay the start of RMDs to age 75, leaving fewer years for the 20% to use these funds in retirement. (The 80% are unaffected because they will withdraw the funds they need anyway.) This goes against the SECURE Act rationale that these funds should be used in retirement, since raising the RMD age means more of the funds will pass to beneficiaries. It also tightens the timeframe in which IRA funds will have to be withdrawn and taxed to however long the IRA owner lives, plus the 10 years after death. That could cause a bunching of income into those years.
Delaying RMDs would likely mean people take larger RMDs when they do begin, potentially resulting in higher tax bills. As such, putting off RMDs to later years may result in higher overall taxes than if the RMDs were spread over more years.
RMDs have always been a sore spot for seniors. Before the SECURE Act, the RMD age of 70½ was a constant source of confusion, particularly in the first year. One of the best provisions in the SECURE Act was that it eliminated that half-year issue by raising the RMD age to 72. But even that change left many confused about whether they would use age 72 or follow the prior rules, based on their age. Now SECURE 2.0 would create the same issue, raising the age to 73 in 2022 and then to 74, and 75 over the next 10 years. What a mess!
Mistakes in calculating RMDs have been rampant and cause anxiety among seniors, who worry about taking the right amount knowing that there's a 50% penalty hanging over their heads if they come up short. In reality, virtually no one ever paid that penalty since the IRS would waive it for any reasonable cause, including confusion, calculation mistakes and medical reasons. Some seniors were dealing with illness and forgot to take their RMDs, resulting in having to seek advice from financial advisers and tax preparers to help them make up the missed RMDs and file for RMD penalty waivers.
Learn How to fix a missed RMD (in five easy steps) here.
RMDs cause problems for beneficiaries too. Navigating the complicated rules for the year-of-death RMD from an inherited IRA can add unnecessary stress at the worst possible time for grieving family members.
A seemingly taxpayer-friendly item in the proposed law may indirectly result in more people paying the penalty for missed RMDs (unless I am being overly cynical). The provision calls for a reduction in the penalty from 50% to 25%, and then even lower to 10% if the missed RMD is timely made up. This seems a bit devious since it could result in people paying a 10% penalty when under the existing law there was no penalty to be paid, since the former 50% was almost always waived. A 10% penalty might be more easily assessed since it is much less draconian. Hopefully, the IRS will be as liberal waiving the 10% penalty as it was with the 50%. In addition, this new 10% penalty will no doubt be confused with the 10% early distribution penalty. There would now be the same 10% penalty for withdrawing too early or too late. Add this to the list of annoyances that will keep seniors up at night.
Why bother with lifetime RMDs at all anymore? They are completely unnecessary, especially since the SECURE Act set an end date for when retirement funds will have to be withdrawn after death with the 10-year rule. Why not just eliminate lifetime RMDs and all the problems and worries that come with them? That would harmonize the RMD rules with Roth IRAs, which have no lifetime RMDs.
Doing so would certainly simplify the rules for retirement accounts, which Congress has long held out as a goal. The RMD rules are so complex that in our 2-Day Instant IRA Success Workshop, we have to spend at least a third of our time explaining them to advisers so they can explain them to their clients.
Eliminating lifetime RMDs will have close to a zero-revenue effect (or more likely result in increased tax revenue) since 80% of people will be taking what would have been the minimum or more anyway because they need the funds to live on in retirement. Why make them worry about what amount to withdraw, going through their IRA statements and making calculations? Let them take what they need when they need it. It might just be that they end up withdrawing more, thereby increasing revenue for the government without any RMD anxiety.
The 20% who don’t need the funds may be doing themselves a disservice if they don't take withdrawals during their lifetime. The eventual tax bill for their heirs will be bunched into a 10-year window, likely increasing the overall tax paid. Delaying RMDs even for those who don’t need the funds would not be a good tax move. Even the 20% might end up withdrawing more during their lifetime to smooth out the tax bill.
Another benefit (for both the government and retirees) to eliminating lifetime RMDs is that all IRA withdrawals could be converted to Roth IRAs. This would increase the government’s take and allow more people to build tax-free Roth savings.
The revenue provisions of the proposed bill, where they show how they are going to pay for everything in the bill, included several ways to encourage more Roth contributions by creating Roth options for SEPs and SIMPLE IRAs. Congress also proposed having plan-matching employer contributions and catch-up contributions go to Roth plan accounts. It’s clear that Congress loves Roth IRAs (they really want full “Rothification”) because of the revenue it brings in when tax deductions are not claimed for contributions to retirement accounts.
If Congress likes Roth IRAs so much, eliminating lifetime RMDs would open the door to more Roth conversions. Currently, RMDs cannot be converted to Roth IRAs, but if there were no RMDs, all IRA funds could be converted. That’s what happened last year when RMDs were waived. Many people did Roth conversions of funds that would not have qualified for conversions had they been treated as RMDs. Eliminating lifetime RMDs would give rise to an increase in Roth conversions which means more government revenue.
There is no longer any need for lifetime RMDs. Congress, please end the RMD misery for seniors (who vote!) and raise revenue at the same time. It’s a win-win!
For more information on Ed Slott and Ed Slott’s 2-Day IRA Workshop, please visit www.IRAhelp.com.
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