Incorrect RMD notices may result in distributions that aren’t exactly ‘required’

The IRS released IRS Notice 2023-23 on March 7 to provide relief to financial institutions that may have sent out incorrect required minimum distribution notices to IRA owners stating that the owners must take an RMD for 2023 when in fact they don’t have to.

The problem arose due to the late passage of the SECURE 2.0 Act, which increased the RMD age to 73 from 72 for those who turn age 72 this year or later (those born from 1951 to 1959). However, the law was enacted so late in the year (Dec. 29) that financial institutions didn’t have to time to update their systems before sending out incorrect RMD notices.

The IRS requires financial institutions to send a statement to IRA owners who must start taking RMDs in a particular year. The notice must inform them of the due date for their first RMD and the amount, or offer to calculate the RMD amount upon request, by Jan. 31. Given the late enactment date of SECURE 2.0, notices may have been sent out stating that IRA owners turning age 72 in 2023 would have a 2023 RMD, when they actually do not.

Under SECURE 2.0, anyone turning 72 in 2023 won’t have their first RMD year until 2024 (the year they turn age 73). And because it’s their first RMD, they don’t have to take that first RMD for 2024 until April 1, 2025. That’s their required beginning date, or RBD.

The IRS notice provides relief to financial institutions who sent out incorrect RMD notices, as long as they notify their affected IRA owners — those who will turn age 72 in 2023 — by April 28 that no RMD is due for 2023. The institutions will also have to correct any 5498 forms which may have the RMD box checked, indicating a 2023 RMD is due.

This relief is good news for financial institutions, but what about proactive IRA owners, who may have already acted on this incorrect information and taken a “required” distribution that actually was not required?

Can the distribution, which the IRA owner thought was an RMD, be rolled back over?

An RMD can never be rolled over or converted to a Roth IRA. However, since the distribution taken in this case was not in fact required, it’s not an RMD and may be rolled over or converted to a Roth IRA. But the tax on a Roth conversion will be owed.

What if the IRA owner doesn’t want to pay any tax and would like to simply roll the mistaken distribution back to his IRA? That may not be as easy.

First, the distribution must be eligible to be rolled over. Since this was a distribution, it is now subject to both the once-per-year IRA rollover rule and the 60-day rollover rule.

ONCE-A-YEAR ROLLOVER LIMIT

Only one IRA-to-IRA rollover can be done within a year (365 days, not a calendar year). If any IRA-to-IRA rollover (or even a Roth-IRA-to-Roth-IRA rollover) was done within the past 12 months, then the distribution can’t be rolled over, even though the IRA owner relied on incorrect information from his financial institution. The IRS notice does not provide any relief for this.

In that case, unless the IRS issues further relief to IRA owners on this, which seems unlikely, the IRA distribution will be taxable, and probably should be converted to a Roth IRA since the tax has to be paid anyway.

The once-per-year IRA rollover rule doesn’t apply to Roth conversions since a conversion is a rollover from an IRA to a Roth IRA, as opposed to an IRA-to-IRA rollover.

60-DAY ROLLOVER RULE

Even if there were no IRA-to-IRA rollovers in the past 365 days, the distribution is still subject to the 60-day rule, meaning that the rollover back to an IRA can’t be done if more than 60 days have passed since the date the distribution was received. The 60-day rule would also foil a Roth conversion, because that distribution would have had to be converted within 60 days of receipt of the distribution.

Luckily, for most clients the 60-day rule may not be as big of a problem as the once-per-year IRA rollover rule, because it’s still relatively early in the year for taking RMDs.

IRA owners who recently (still within the 60 days) took that mistaken RMD can still convert it to a Roth IRA.

But if they don’t want to pay tax and want to simply roll the funds back to an IRA, they can only do that if they do not run afoul of the once-per-year rule.

Advisors should check to see which clients might be affected and help them undo the distribution (by rolling the funds back to an IRA, if eligible) or by converting part or all of it to a Roth IRA before the 60 days pass.

MORE RMD CONFUSION

In the notice, the IRS also reminds IRA owners who turned age 72 in 2022 that they still do have an RMD for 2022, which is due by April 1, 2023, if not already taken. They don’t get to switch to age 73.

The IRS advises the financial institutions to remind these IRA owners that the SECURE 2.0 Act didn’t change their RMD required beginning date.

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