Additionally, the study published last week by the Joint Economic Committee points out that the current requirements, designed to allow the government to recapture deferred taxes on retirement plan balances, may not represent the best way to accomplish that goal.
Under current law, participants in qualified retirement plans are required to begin withdrawing funds from their retirement accounts beginning at retirement or age 70 ½ (see IRS Releases Final RMD Revisions ). Participants who fail to do so must pay the Internal Revenue Service (IRS) a penalty equal to half of the difference between the amount that should have been withdrawn and the amount actually withdrawn, if any.
As many recordkeepers can attest, the report notes that the calculation of the asset base and amount of minimum withdrawal necessary may be difficult to calculate for many seniors. That inability can result in a significant financial impact to the senior. As the report says, “if the tax due on the required minimum withdrawal does not contribute to the erosion of a senior’s available retirement fund, the 50% the government summarily applies definitely would.”
The JEC report says that not only is the individual in the best position to know when is the right time to elect to make withdrawals, forcing seniors to sell assets in market conditions that have reduced their retirement plan assets may undermine the retirement security of seniors and produce less tax revenue to the government.
The report outlines a number of possible alternatives to the current approach, including:
- An outright repeal of the current RMD laws, as proposed by Representative Jim Saxton (R-New Jersey) in H.R. 1386. That bill would amend the Internal Revenue Code of 1986 to remove the requirement of a mandatory beginning date for distributions from individual retirement plans. The JEC notes that this option would be consistent with the economic philosophy that income should be taxed only when used for consumption, not for saving and investing.
- A repeal with recapture upon transfer to nonspouse. The JEC says that if the account owner opted for continued deferral, it would be required that whatever assets remain in the account once the owner is deceased would be taxed immediately in full when the assets are passed on to a nonspousal heir at the end of the year, instead of allowing for a withdrawal plan based on the life expectancy of the heir.
- Increasing the minimum age at which mandatory withdrawals must begin, such as the increase to age 75 as proposed in legislation introduced by Representatives Rob Portman (R-Ohio) and Ben Cardin (D-Maryland). That JEC says that approach also addresses the demographic reality that many seniors continue to work well past age 70, while also mitigating the tax revenue loss possible under other options.
- Providing a limited exclusion from the minimum withdrawal requirements up to a specified amount, an option also considered by Reps. Portman and Cardin.
- Allowing seniors to credit amounts withdrawn in previous years that exceed the minimum (say for medical expenses, or some other emergency) to the required amounts in subsequent years. Under the current requirements, the following year’s withdrawal requirement would be based on the current account balance – reduced by the “excess” withdrawal – imposing an even larger required distribution on the senior.
- Allowing seniors to treat any account losses incurred by the forced distribution to be offset against capital gains or against ordinary income, up to specified limits.
- Allowing for a specified “grace period” under which seniors at or over age 70½ could elect to defer the mandatory withdrawals for a specified number of years. The grace period would allow seniors to avoid having to sell IRP assets at a loss, and allow them to wait until account values are higher before either beginning or resuming mandatory withdrawals.
However, the JEC report says that whether or not any of these options eventually become law, at the very least one policy change should immediately be implemented: equalizing the treatment between traditional IRA owners and owners of 401(k)-type plans.
Current law affords 401(k) investors to begin taking distributions at the latter of either age 70½ or retirement, while holders of traditional IRA accounts must begin taking distributions at age 701/2, regardless of employment status.
The JEC report calls on Congress to address the current problems associated with the RMD rules, noting that “passing legislation now would help many millions of seniors this year.” Revenue estimates were beyond the scope of the study, though JEC said that revenue loss has been a sticking point for past proposals to modify the rules.
The JEC report, The Taxation of Individual Retirement Plans: Increasing Choice for Seniors, is at http://www.house.gov/jec/tax/irp.pdf
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