Defined Contribution Plan Alert: IRS Proposes New Rules for Required Minimum Distributions

Employee Benefits Alert

On February 24, 2022, the IRS issued proposed regulations (the “Proposed Regulations”) for determining the required minimum distribution (“RMD”) payable to retirement plan participants and their beneficiaries. The Proposed Regulations comprehensively restate the existing regulations under section 401(a)(9) and related provisions of the Internal Revenue Code (the “Code”) to (1) address changes to the RMD rules resulting from the Setting Every Community Up for Retirement Enhancement Act of 2019 (the “SECURE Act”), (2) clarify in formal guidance issues raised in public comments and Private Letter Rulings, and (3) replace the question-and-answer format of the existing regulations with a standard format.

In this client alert, we address the Proposed Regulations in the context of the SECURE Act provisions specific to employer-sponsored defined contribution plans such as money purchase, 401(k), 403(a), 403(b), and governmental 457(b) plans.[1] (IRAs are subject to the same SECURE Act provisions as employer-sponsored plans, but are treated differently for purposes of other, related RMD rules not addressed in this client alert.)  We conclude with action items for employers pending issuance of final regulations.

I. Age for Determining Commencement of RMDs

Prior to the enactment of the SECURE Act, commencement of RMDs was based on the participant’s attainment of age 70-1/2. This age applied for purposes of determining the participant’s required beginning date and when RMDs must commence for the surviving spouse of a participant who dies before commencing RMDs.

The SECURE Act raised the age from 70-1/2 to 72 for all retirement plans subject to the RMD rules. The Proposed Regulations clarify that the age 72 rule became effective January 1, 2020 for any participant born on after July 1, 1949, even if the participant died prior to January 1, 2020. This interpretation treats equally all surviving spouses of such participants, who may now defer commencement of RMDs until the year the participant would have attained age 72 regardless of the date of the participant’s death.

II. RMDs for Beneficiaries under Defined Contribution Plans

Prior to the enactment of the SECURE Act, one of three rules applied if a participant died before commencing RMDs. The general rule was that the participant’s entire retirement plan balance had to be distributed within five years of the participant’s death. One exception to this rule permitted distributions to a beneficiary designated by the participant to receive RMDs over the beneficiary’s life expectancy. This was informally referred to as “stretching” the RMD. The second exception permitted the surviving spouse of the participant to defer commencement of RMDs until the participant would have attained age 70-1/2 (as noted in Section above, now age 72).

The SECURE Act changed these rules for defined contribution plans. The requirement that the participant’s plan balance be distributed within five years of the participant’s death continues to apply in the absence of a designated beneficiary. The SECURE Act extended the distribution period to ten years in the case of a designated beneficiary. At the same time, the SECURE Act limited the life expectancy rule to a new, narrower category of “eligible designated beneficiary.”

Regarding the ten-year rule for designated beneficiaries, the Proposed Regulations provide that the specific application depends on whether the participant dies before or on or after the participant’s required beginning date. If the participant dies before the required beginning date, no annual RMDs are required so long as full distribution of the participant’s plan balance is made within ten years. If the participant dies on or after the required beginning date, then RMDs must continue and also be completed within the ten-year maximum payout period. The IRS has not always made this distinction in taxpayer guidance prior to the Proposed Regulations, but it is consistent with the statutory language.

Regarding eligible designated beneficiaries, the SECURE Act established five categories of qualifying individuals: (1) the surviving spouse of the employee, (2) a child of the employee who has not reached majority, (3) a disabled individual, (4) a chronically ill individual, or (5) an individual not in the preceding four categories who is not more than ten years younger than the participant. Once an eligible designated beneficiary who is a child of the employee reaches majority, the ten-year rule applies in lieu of the life expectancy rule. Pursuant to the Proposed Regulations, majority is generally age 21 (subject to an exception for governmental plans discussed in Section IV below), notwithstanding any other age that might apply under state law.

Qualifying as disabled or chronically ill matters not only for determining status as an eligible designated beneficiary per se, but also because the SECURE Act provides that the life expectancy rule applies to disabled and/or chronically ill individuals who are named as beneficiaries of certain trusts with multiple designated beneficiaries, not all of whom are disabled or chronically ill (“applicable multi-beneficiary trusts”). This overrides the general rule that if a participant has more than one designated beneficiary, and at least one of those beneficiaries is not an eligible designated beneficiary, then the participant is treated as not having an eligible designated beneficiary.

The Proposed Regulations elaborate upon the definition of disability for purposes of the SECURE Act, which cross-references Code section 72(m)(7). An individual who has been determined to be disabled for purposes of Social Security is deemed to be disabled. Also, a child under the age of 18 is disabled if the child has a medically determinable physical or mental impairment that results in marked and severe functional limitations and that can be expected to result in death or to be of long-continued and indefinite duration. This definition recognizes that the literal terms of Code section 72(m)(7), which refer to engaging in substantial gainful activity, may be difficult to apply to a child.

The Proposed regulations also elaborate upon the procedures for documenting chronic illness. The SECURE Act defines a chronically ill individual by cross-referencing Code section 7702B(c)(2), modified to require that the associated period of inability be indefinite and reasonably expected to be lengthy in nature rather than at least 90 days as provided under Code section 7702B(c)(2)(A)(i).

Pursuant to the Proposed Regulations, documentation of the chronic illness must be provided to the plan administrator no later than October 31 of the calendar year following the year of the participant’s death. The documentation must include a certification from a licensed health care practitioner that the individual is chronically ill. Depending on the nature of the chronic illness, certification may also be required that the individual is unable to perform (without substantial assistance from another individual) at least 2 activities of daily living for an indefinite period that is reasonably expected to be lengthy in nature.

The Proposed Regulations address the above provisions in contexts such as disabled or chronically ill children and surviving spouses, beneficiaries of eligible designated beneficiaries, and rules for determining RMDs for multiple designated beneficiaries. We do not address such scenarios in this client alert, but note them here as indicative of the complexities of applying the SECURE Act rules to specific fact patterns.

III. Special Considerations for 403(a) and 403(b) Plans

The SECURE Act provides that the new ten-year and life expectancy rules apply to all eligible retirement plans under Code section 402(c)(8)(B) other than defined benefit plans and qualified trusts which are part of a defined benefit plan. Therefore, 403(a) and 403(b) plans are subject to these rules.

Notwithstanding the broad applicability of the ten-year and life expectancy rules, the SECURE Act includes an exception in the case of a binding commercial annuity contract in effect on the enactment date of the Act that satisfies specified criteria (a “qualified annuity”). The Proposed Regulations extend this exception to annuities provided under church plan retirement income accounts under Code section 403(b)(9) even if a commercial annuity is not used, provided that all of the other requirements for the qualified annuity exception are satisfied.

Although this exception for qualified annuities is not specific to 403(a) and 403(b) plans, such contracts are generally more prevalent in those plan types. In effect, the exception means that a designated beneficiary whose RMDs are paid from a qualified annuity can stretch the RMDs even if they commence subsequent to the effective date of the SECURE Act and regardless of whether such individual would qualify as an eligible designated beneficiary.

More generally, because both IRAs and qualified plans are considered eligible retirement plans, the SECURE Act did not affect the structure of the existing 403(b) regulations which treat 403(b) plans like IRAs for most RMD purposes, but like qualified plans in specified contexts. Nonetheless, the Proposed Regulations propose some modifications to this treatment and request comments on potentially more extensive changes. These lie beyond the scope of this client alert.

IV. Special Considerations for Governmental Plans

As noted above, the new ten-year and life expectancy rules apply broadly to eligible retirement plans, and this includes governmental 403(b) and 457(b) plans. However, the SECURE Act provided a later effective date of December 31, 2021 for governmental plans, as opposed to the generally applicable effective date of December 31, 2019.

Also, the SECURE Act did not alter the existing statutory requirement that regulations under Code section 401(a)(9) provide that a governmental plan be treated as having complied with the RMD rules if the plan complies with a reasonable good faith interpretation of such rules.[2] The Proposed Regulations apply this standard to permit a governmental plan to define majority in accordance with the existing regulations, which provide that (1) a child may be treated as having not reached the age of majority if the child has not completed a specified course of education and is under the age of 26 and (2) a child who is disabled when the child reaches the age of majority may be treated as having not reached the age of majority so long as the child continues to be disabled. This flexibility for governmental plans applies even if the plan terms that define age of majority are adopted after the publication date of the Proposed Regulations.

V. Action Items for Employers

The existing RMD regulations remain in effect until the Proposed Regulations are adopted in final form. Nonetheless, compliance with the SECURE Act amendments to the RMD rules is already a legal requirement. The Proposed Regulations address this by providing that employers should take into account a reasonable, good faith interpretation of the SECURE Act when applying the existing regulations, and that compliance with the Proposed Regulations will satisfy that requirement.

Given this immediate relevance of the Proposed Regulations to retirement plan administration, employers should consider the following action items:

  • Plan Document Review. Although all retirement plans subject to the RMD rules are required to contain RMD provisions, plans have some flexibility in determining which distribution periods are available to participants and their beneficiaries. Because the Proposed Regulations will therefore not apply identically to all plans, employers should determine their application on a plan-by-plan basis.
  • Operational Review. Administration of RMDs now falls into three categories: RMDs that commenced before the applicable effective date of the SECURE Act, and thus not subject to its provisions; RMDs that commenced after the applicable effective date but before adoption of final regulations, which are subject to the good faith compliance requirement with the Proposed Regulations noted above; and, going forward, RMDs that commence after the applicable effective date and are in pay status after, and thus become subject to, the final regulations. Employers should categorize RMDs accordingly and review their current administration of the first two categories in light of the relevant rules.
  • Demographic Review. Many of the administrative challenges associated with RMDs concern the timing of their commencement. Depending on the specific plan terms, this may be deferred until retirement for participants who remain employed by the employer after age 72. Other challenges concern distributions to beneficiaries upon the death of the participant. Employers should therefore track participant ages and employment status in light of the plan rules regarding RMD commencement and review beneficiary designations so that any gaps or uncertainties can be addressed proactively.

For more information about the Proposed Regulations, or regarding RMDs in general, please contact an attorney in Caplin & Drysdale’s Employee Benefits Group.


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