ComplianceTax & AccountingMarch 06, 2020

IRA required minimum distribution not satisfied: penalty and penalty waiver request

Overview

A common individual retirement account (IRA) related question asked at the beginning of each year is, “What should an IRA owner do if he/she did not take his/her required minimum distribution (RMD) by the December 31 deadline?” This article provides an answer to that question.

RMD deadline

Traditional (including simplified employee pension – SEP) and Savings Incentive Match Plan for Employees of Small Employers (SIMPLE) IRA owners that attained age 70½ before 2020 were required to begin taking RMDs upon attainment of age 70½. These IRA owners had until April 1 of the year after their age 70½ year to take their first RMD. This date is referred to as the required beginning date (RBD). The last of this group of IRA owners, those individuals who attained age 70½ in 2019, have until April 1, 2020 to take their 2019 RMD. The deadline for an IRA owner to satisfy his/her RMD each subsequent year is December 31.

As a result of the SECURE Act, effective for years after 2019, traditional and SIMPLE IRA owners who were not age 70½ by the end of 2019 do not need to begin taking RMDs until they attain age 72, with the first one being required by April 1 of the year after attainment of age 72.

Penalty for not taking an RMD timely

If an RMD is not withdrawn before the applicable deadline, the IRA owner is subject to a 50 percent “excess accumulation” penalty tax on the amount not taken. For example, if an RMD of $4,000 is not taken an excess accumulation penalty tax of $2,000 (i.e., $4,000 x .50 = $2,000) applies. However, if the deadline to satisfy an RMD is missed due to reasonable cause, an IRA owner may ask the Internal Revenue Service (IRS) to waive the penalty. When requesting a waiver of an excess accumulation penalty it is prudent for an IRA owner to withdraw the RMD as soon as he/she realizes it was not taken timely. An IRA owner may request a waiver of the penalty by writing a letter to the IRS explaining the reason the RMD deadline was missed, and the fact that he/she has remedied the “shortfall” by removing the RMD, though it was done after the deadline. The letter of explanation is attached to IRS Form 5329, Additional Taxes on Qualified Plans (Including IRAs) and Other Tax-Favored Accounts, without payment for the penalty. An IRA owner waits for a reply from the IRS stating whether a penalty is due.

Example without Reasonable Cause:
George, age 82 in 2019, had a traditional IRA RMD of $3,200 for 2019. George forgot to take his 2019 RMD by the December 31, 2019 deadline. On January 9, 2020 George withdrew an amount equal to his 2019 RMD. George completes IRS Form 5329 and pays a penalty tax of $1,600 with his 2019 tax return. Keep in mind, because he removed the 2019 RMD in 2020, the distribution is reported on a 2020 IRS Form 1099-R, Distributions from Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc., as taxable income for 2019.

Example with Reasonable Cause:
Brittany, age 75 in 2019, had a traditional IRA RMD of $1,000 for 2019. As Brittany was in a car accident she was unable to take her 2019 RMD by the December 31, 2019 deadline. On January 16, 2020 Brittany withdrew from her IRA an amount equal to her 2019 RMD. Brittany wrote a letter, which she attached to IRS Form 5329 and her 2019 tax return, explaining to the IRS the reason for which she did not take her 2019 RMD timely and indicated that she has since taken it. The distribution is reported on a 2020 IRS Form 1099-R as taxable income for 2020. The IRS, when considering the circumstances, will make a determination regarding whether the 50 percent penalty tax will be waived.

IRA custodian/trustee responsibilities

IRA custodians/trustees are required to notify IRA owners of their RMDs by providing them with an RMD notice by January 31 each year. The notice informs an IRA owner of the deadline to take the RMD, the amount of the RMD or that the amount will be calculated upon the IRA owner’s request, and indicates that the RMD status will be reported to the IRS.

An IRA custodian/trustee is not responsible for ensuring that an IRA owner takes his/her RMD before the deadline. However, it is common for IRA owners to request automatic payments of the RMD amount each year. If an IRA custodian/trustee fails to distribute the amount as instructed, the IRS views it as an IRA owner failing to take his/her RMD. Therefore, the IRA owner is subject to the penalty, not the IRA custodian/trustee.

Some IRA custodians/trustees have a policy stating that if an IRA owner fails to take an RMD, they will automatically pay out the RMD amount prior to the deadline. Other IRA custodians/trustees choose to do nothing. Either policy is acceptable.

Conclusion

The same rules regarding failure to take an RMD timely and how to request a waiver of the excess accumulation penalty tax applies to beneficiaries. However, if there is reasonable cause for not taking an RMD by the deadline, the IRS might waive the penalty upon request. Keep in mind that it is the responsibility of an IRA owner (or beneficiary) to understand the RMD rules to avoid a penalty situation. Information regarding the RMD and the penalty can be found in IRS Publication 590-B, Distributions from Individual Retirement Arrangements (IRAs).

For an opportunity to learn more about IRAs and other tax advantaged accounts, including Health Savings Accounts and Coverdell Education Savings Accounts, consider our On Demand Video Training. For more information call us at 1-800-552-9408.
Diana Theis
Senior Specialized Consultant, Tax Advantaged Accounts
With more than 30 years of experience, Diana has worked closely with hundreds of financial organizations to help them create, implement, and maintain their tax-advantaged accounts program.