In each edition of the IRS’s quarterly newsletter for Retirement Plans, the IRS focuses on a “common plan mistake” frequently turning up on audit. In a recent edition of the Retirement News for Employers[pdf], the IRS focuses on an issue which is sure to become even more and more common as the baby boomers age and either continue in the workforce or begin drawing down on their retirement accounts. (Commentators are indicating many baby boomers will continue to work past retirement age due to a lack of savings and the need caused by demographics for employers to retain older employees in their workforce.)
As most probably are aware, the Internal Revenue Code establishes a mandatory date, known as the “required beginning date” (“RBD”), by which payments to a plan participant must begin. Normally, the RBD for a participant who is not a 5% owner is the April 1st following the end of the calendar year in which the later of two events occurs: (1) the participant reaches age 70½ or (2) the participant retires. For a participant who is a 5% owner, the RBD is the April 1st following the end of the calendar year in which the participant attains age 70½, regardless of whether he or she retires by the end of that year.
The IRS notes in its newsletter that a common plan mistake found on audit is that required minimum payments have not been paid at all from a plan or have not been paid on a timely basis. The IRS notes that “this is especially true when a non-5% owner continues working after reaching age 70½.” (My guess is that they meant to say “this is especially true when a 5% owner continues working after reaching age 70½.”) As one would expect, the IRS warns that failure to follow the minimum distribution rules can disqualify the plan and can mean that participants or beneficiaries who do not receive their minimum distribution on time are subject to a 50% additional tax on the underpayment. (Ouch!)
The IRS newsletter goes on to discuss how to “fix” the error, for those who want to learn more. On a related note, however, see also this recent paper by Jason J. Fichtner, Joint Economic Committee–“The Taxation of Individual Retirement Plans: Increasing Choice for Seniors“–which argues for the repeal or modification of the minimum distribution requirements. The paper laments that such rules force many seniors to take distributions when they do not need them and, in cases of a down market, require “seniors to sell assets at depressed prices to pay taxes, even if investment losses have been incurred.” And, as the IRS newsletter reminds us, a plan’s failure to comply with the minimum distribution requirements can also cause seniors to incur the monstrous 50% excise tax on plan underpayments.