Two recent tax changes, one added as part of the SECURE Act passed in late 2019 and another included in the recently enacted CARES Act, will affect required minimum distributions (“RMDs”) in tax-qualified retirement and Section 403(b) plans of for-profit and tax-exempt employers in 2020 and thereafter. In this Benefits Brief, we will provide a general overview of these changes, how they will affect administration for these plans for 2020 and following years and provide suggested action items for plan sponsors and plan administrators.
Required Minimum Distributions – Pre-SECURE Act
The required minimum distribution rules are designed to assure that amounts accumulated in retirement plans are used for the support of the participant and his/her dependents in retirement rather than a tax-deferred vehicle to transfer wealth to a younger generation.
Under pre-2020 law, a participant who owns more than 5% of the plan sponsor, directly and through attribution, is required to commence distributions from the plan once he/she attains age 70 ½. A participant who owns less than 5% of the plan sponsor is required to commence distributions by of the later of attainment of age 70 ½ or retirement.
The amount required to be distributed each year depends upon the age of the participant or, in the case of a deceased participant, whether he/she died before or after attaining age 70 ½. Properly structured, post-death distributions under pre-2020 law may be made over the life expectancy of the participant’s “designated beneficiary.” Suffice it to say that the rules governing actual commencement and the calculation of required payments is detailed and complex.
Failure to pay an RMD is both a disqualification defect for the plan and subjects the recipient to a 50% penalty tax to the extent a distribution is less than the required amount.
A plan may generally require earlier commencement and payment than the required minimum distribution rules require but a plan may not permit later commencement or later payment than permitted under those rules.
SECURE Act Changes
The SECURE Act made two changes in the required minimum distribution provisions effective for distributions made after December 31, 2019 with respect to participants who had not attained age 70 ½ as of that date. Thus, the new rules apply to participants who were born after July 1, 1949. Participants who attained age 70 ½ by December 31, 2019 will be subject to the required minimum distribution provisions in effect before the SECURE Act. With this effective date, two participants with the same termination date and the exact same account balance could have different RMD payments.
The first change increased the age at which RMDs must start (the “required beginning date”) from age 70 ½ to age 72.
The second change eliminated the ability to pay out post-death distributions from a defined contribution plan (e.g., a 401(k), profit sharing, money purchase pension, or 403(b) plan) over the life expectancy of the participant’s “designated beneficiary” except in limited circumstances. Now, unless the participant is survived by an “eligible designated beneficiary,” the entire balance must be paid from the plan by December 31 of the year of the tenth anniversary of the participant’s death. Withdrawals are not required annually; rather the entire balance must simply be withdrawn by the December 31 deadline.
There are five categories of beneficiaries who are considered “eligible designated beneficiaries” for purposes of these rules:
- The participant’s surviving spouse;
- The participant’s minor child;
- A beneficiary who is considered disabled under the Internal Revenue Code;
- A beneficiary who is considered chronically ill under the Internal Revenue Code; and
- A beneficiary who is not more than 10 years younger than the participant.
Benefits to these beneficiaries may be paid after the participant’s death over the beneficiary’s life expectancy, with the exception of the participant’s minor child; benefits to a participant’s minor child can be paid out based on his/her life expectancy until he/she attains the age of majority, following which all remaining benefits must be paid out within ten years.
CARES Act Change
The CARES Act waives all required minimum distributions for defined contribution plans (e.g., 401(k), profit sharing, money purchase pension, and 403(b) plans) that would otherwise be due in 2020. In other words, required minimum distributions are simply pushed back by one year for these plans.
Plan sponsors may permit participants to request a withdrawal of the 2020 required minimum distribution amount notwithstanding the waiver. If they choose to do so, those distributions are not subject to 20% mandatory federal income tax withholding and the plan administrator is not required to provide the eligible rollover explanation required before the distribution of non-RMD amounts.
Employer and Plan Administrator Action Items
In our experience, most participants and beneficiaries of deceased participants elect a distribution soon after termination of employment or death, as applicable, so it is fairly rare a plan sponsor or administrator must contend with the RMD rules. These changes, however, will compel the plan sponsor and plan administrator to address practices and procedures with the plan’s third party administrator and/or recordkeeper to assure compliance with these provisions going forward.
Although neither the Internal Revenue Code nor Department of Labor or Internal Revenue Service guidance explicitly requires notification of participants of these changes at this time, we think it a good practice to promptly notify participants of these changes. Consideration should be given to distributing an update to the summary plan description (often referred to as a “summary of material modifications”) for this purpose to obviate the need to distribute an explanatory notice now and an update to the summary plan description after the written plan amendment is executed.
Distribution forms will also need to be updated, including the required explanation of the federal income tax consequences of the distribution. Most plan sponsors use the IRS safe harbor “model” explanation but as of this writing, the IRS has not yet updated its “model” notice to reflect these changes.
Plan amendments are not required at this time; rather the last day of the first plan year beginning on or after January 1, 2022 is the amendment deadline for the both the SECURE Act and CARES Act changes. Both amendments must reflect the manner in which the plan has been administered since January 1, 2020.
 The SECURE and CARES Acts also changed the required minimum distribution rules applicable to IRAs, however, a discussion of those changes is beyond the scope of this Benefits Brief. Also, special rules apply to governmental and multiemployer (union) plans but a discussion of those provisions is beyond the scope of this Benefits Brief.
Gilbert C. Van Loon is an attorney in the Ridgeland office of Butler Snow LLP. He has represented clients in in all aspects of retirement and health and welfare benefit plans – design, administration, compliance, taxation, employee communications, fiduciary responsibility, defense of benefit claims, examinations, ruling applications, correction program filings, and merger and acquisition transactions. Gilbert can be contacted by phone at 601.985.4556 or via email at firstname.lastname@example.org.
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Benefits Brief is published by the Business Services Group of Butler Snow LLP, on selected developments in employee benefits law. The content of Benefits Brief is intended for general informational purposes only, is not intended to be comprehensive with respect to the subject matter, and is not intended to create an attorney-client relationship with any reader. Benefits Brief is not designed nor intended to provide legal or other professional advice, as any such advice requires the consideration of the facts of a specific situation. For further information or specific questions relating to this article, please contact the author at 601.985.4556 or email@example.com. The invitation to contact the author is not a solicitation to provide professional services and should not be construed as a statement as to any availability to perform legal services in any jurisdiction in which he is not permitted to practice. This publication may be considered ADVERTISING MATERIAL in some jurisdictions and is authorized by Chris Maddux, Chairman, 1020 Highland Colony Parkway, Suite 1400, Ridgeland, MS 39157.