How the CARES Act Significantly Changes the RMD Rules for 2020

Edward Zurndorfer explains how the Coronavirus Aid, Relief and Economic Security (CARES) Act significantly changes the required minimum distribution (RMD) rules for 2020

Edward A. Zurndorfer

A previous FED-ZONE column discussed the passage of the Coronavirus Aid Relief and Economic Security (CARES) Act, which became law on March 27, 2020. One of the provisions of the CARES Act is the suspension of required minimum distributions (RMDs) for 2020 “across the board”. This means no RMDs for traditional IRA owners, qualified retirement plan participants including the Thrift Savings Plan (TSP) participants (all of whom are over age 70.5), and inherited traditional IRA and inherited Roth IRA owners of any age. Since the CARES Act passage, there have been numerous questions about what the 2020 RMD suspension means – including questions from federal annuitants about their TSP RMDs, as well as questions from those IRA owners and qualified retirement plan participants who already have taken their 2020 RMDs and the impact on federal and state income taxes. The TSP on its Web site explains the temporary changes to TSP RMDs for 2020.  This column answers additional questions about the RMD suspension for 2020 resulting from the CARES Act suspension.

What does the 2020 RMD relief entail?

The CARES Act states that all defined contribution plans – this includes 401(k), 403(b) and 457(b) retirement plans and the TSP – and traditional IRAs, may suspend 2020 RMDs. It is interesting to note that RMDs for 2020 were to affect fewer individuals in 2020 since 2020 is the first year in which the required beginning date for taking an RMD April 1 following the year an individual (born after June 30, 1949) becomes age 72 rather than April 1 following the year an individual (born before July 1, 1949) becomes age 70.5. The CARES Act also allows retired owners of retirement plans and of traditional IRAs to skip both their 2019 RMD (if 2019 was their first year and they had not made the 2019 RMD by April 1, 2020) as well as skipping their 2020 RMD originally due to be taken by Dec. 31, 2020.

There is some confusion as to whether the suspension of RMDs during 2020 pertains to inherited IRAs, also known as “death” IRAs. The answer is yes the CARE Act 2020 RMD suspension applies to inherited IRAs.

The CARES Act also deals with specific types of inherited accounts such as those accounts going to an estate, charity or certain type of trust at death. These types of beneficiaries – they are designated beneficiaries who inherit a retirement account from a decedent who died before their required beginning date, typically have to distribute the account within five years of the death of the owner. The CARES Act states that if one of those five years is 2020, then these beneficiaries get an extra year, meaning the “five-year rule” becomes the “six-year rule.”

What happens if an IRA owner or retirement plan owner already took an RMD for 2020?

There are traditional IRA owners and qualified retirement plan owners who are accustomed to taking their annual RMDs early in the calendar year. For example, they take their RMDs in January and February. Some IRA owners and qualified retirement plan participants have their IRA custodians and/or retirement plan administrators automatically deduct the RMDs starting the first week of January.

The CARES Act became law on March 27, 2020. The act suspended the RMDs for all of 2020. The question becomes what happens if a traditional IRA owner, a qualified retirement plan participant including a federal annuitant over age 70.5 (who owns a traditional IRA and/or the TSP) already took his or her RMD for 2020 before March 27, 2020.

The answer is that for anyone who already took his or her 2020 RMD prior to March 27, 2020, they are likely out of luck. There is no provision in the CARES Act that allows a traditional IRA owner or a qualified retirement plan participant, including a federal annuitant over 70.5 with a TSP account, to return or redeposit a distribution taken earlier in 2020. The distribution will be treated as a taxable distribution for the year 2020.

Now is a good time for any traditional IRA owner over age 70.5, any retired qualified retirement plan owner over age 70.5, or any inherited IRA owner who does not need their RMDs and have set up their RMDs for later in 2020 to call their advisor or plan administrator to suspend their RMDs for 2020.

But there is a strategy that an individual who took an RMD from a traditional IRA or from a defined contribution plan (including the TSP) within the last 60 days that will allow them to avoid paying income tax on the previously taken RMD.

For example, suppose a federal annuitant over age 70.5 took a TSP RMD of $30,000 on Feb. 20, 2020. The annuitant has 60 days from Feb. 20, 2020 to rollover the $30,000 into a traditional IRA. The 60-day period, starting on Feb. 20 ends on April 20, 2020. If the full $30,000 is put into a traditional IRA no later than April 20, 2020, then none of the $30,000 will be taxable in the year 2020.

With respect to the TSP, two important facts should be noted about TSP RMDs. First, the TSP makes it clear that no portion of TSP RMDs can be rolled over to traditional IRAs. However, since the CARES Act suspends RMDs for 2020, then any pre-CARES Act TSP RMD (which is per-CARES Act is now not considered an RMD) is eligible for a traditional IRA rollover.

The second important fact about TSP RMDs is that the TSP will automatically withhold 10 percent in federal income taxes from the RMD. This means that in the example above in which the annuitant requested a $30,000 RMD, the annuitant received only $27,000 since $3,000 was withheld in federal income taxes. However, the TSP participant still has to rollover (deposit) the full $30,000 into the traditional IRA by April 20, 2020. This means that the TSP participant has to come up with the other $3,000 before April 20, 2020 in order to avoid having to pay income taxes on the full $30,000.

Only one 60-day rollover per 12-month period

It is important to realize and understand that the IRS allows only one 60-day rollover per 12-month period. This means that if an individual has more than one qualified retirement plan or TSP and a traditional IRA, meaning that the individual has to take an RMD from each retirement account and the traditional IRA, if over age 70.5. But there is one IRA rollover allowed over a 12-month period. A solution to that would be a direct transfer from the qualified retirement plan to a traditional IRA. There are no limitations on direct transfers from a retirement plan to a traditional IRA.

If a TSP participant over age 70.5 did in fact take his or her 2020 RMD before March 27, 2020, and performs a proper 60-day rollover, then any federal income taxes withheld on the RMD will be refunded in spring 2021 when the TSP participant files his or her 2020 federal income taxes. The TSP Service Office will issue the participant a 1099-R for 2020, showing the gross distribution, federal income taxes withheld and a Code “G” in Box 7 of the 1099-R showing the TSP distribution was properly rolled over. The gross distribution will not be considered taxable, and the TSP annuitant should be refunded the federal income taxes withheld upon filing their 2020 federal income tax return.

The federal government waived financial companies and retirement plan providers – including the TSP – from giving a formal rollover notice. The federal government also waived the requirement for an employer-sponsored retirement plan to withhold 20 percent of the distribution for federal income tax, if the distribution is an eligible rollover distribution in 2020 but would not have been eligible if the RMD requirement had still applied in 2020.

TSP participants who do not need their RMDs for 2020 need not contact the TSP to send them any RMD for 2020. But if they err and request a payment, they can, in most cases, do either a direct transfer from the TSP to a traditional IRA or they can use their “once every 12 months” 60-day rollover.

Annuitants who become age 70.5 during 2019 and who had not taken their 2019 TSP RMD as of Jan. 1, 2020

For those federal annuitants who become age 70.5 during 2019 (that is, they were born between July 1, 1948 and June 30, 1949), their first TSP RMD had to be taken before April 1, 2020 (their “required beginning date”). According to the CARES Act, all RMDs during 2020, including those for individuals who became age 70.5 and who a required beginning date of April 1, 2020, are suspended. This means that any 2019 TSP RMD due to be taken no later than April 1, 2020 is also suspended. But it is important to note that the TSP has a general policy that if a federal annuitant with a TSP account has a required beginning date of April 1 but has not taken the RMD by March 1 (or if March 1 is a Saturday or a Sunday, on the last business day of February) then the TSP automatically sends the RMD to the TSP participant.

March 1, 2020 was about four weeks before the CARES Act became law on March 27, 2020. Those TSP participants who became age 70.5 during 2019 and who had not taken their first TSP RMD as of Feb. 28, 2020 (a Friday, the last business day of February as March 1, 2020 was a Sunday) had their first TSP RMD sent to them or directly deposited in their bank as of Feb. 28, 2020. These TSP participants have 60 days, or until April 28, 2020 (about two weeks from now), to perform a 60-day rollover and avoid paying tax on the RMD. In addition, the TSP participant will not have to take the 2020 RMD before Dec. 31, 2020 because of the RMD suspension. The TSP participant will likely have less taxable income and less taxes to pay in 2020 as a result of not having to take two RMDs.

Does the SECURE Act “10-year” distribution rule get impacted by the RMD suspension?

A previous FED-ZONE column discussed the SECURE Act (passed into law in December 2019) and how it changed the rules for beneficiaries of inherited IRAs. Pre-SECURE Act, a non-spousal beneficiary of an inherited RIA had the option of a lifetime distribution from the IRA based on the beneficiary’s life expectancy. Post-12/31/2019, most non-spousal beneficiaries of inherited IRAs are subject to a 10-year distribution rule.

The CARES Act does not directly impact these non-spousal beneficiary inherited IRA accounts. But instead of lifetime distributions for many beneficiaries starting in 2020, there are no RMDs or 10-year distribution rule in effect, yet. The 10-year period starts in the year of death of the IRA or of the retirement plan owner. This means if someone died on Jan. 2, 2020, and wanted to leave their IRA to their adult child, the “10-year” rule starts in 2021. The beneficiary has until Jan. 2, 2031 (not Jan. 2, 2030) to withdraw the entire account. If the original IRA or retirement plan owner’s account was subject to RMDs, one would normally have to take an RMD for the year of the death. If the death occurred in 2020, like the example above in which the IRA or retirement plan owner died Jan. 2, 2020, no RMD would have to be taken because of the CARES Act.

    Edward A. Zurndorfer is a Certified Financial Planner, Chartered Life Underwriter, Chartered Financial Consultant, Chartered Federal Employee Benefits Consultant, Certified Employees Benefits Specialist and IRS Enrolled Agent in Silver Spring, MD. Tax planning, Federal employee benefits, retirement and insurance consulting services offered through EZ Accounting and Financial Services, and EZ Federal Benefits Seminars, located at 833 Bromley Street – Suite A, Silver Spring, MD 20902-3019 and telephone number 301-681-1652. Raymond James is not affiliated with and does not endorse the opinions or services of Edward A. Zurndorfer or EZ Accounting and Financial Services. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. While the employees of Serving Those Who Serve are familiar with the tax provisions of the issues presented herein, as Financial Advisors of RJFS, we are not qualified to render advice on tax or legal matters. You should discuss tax or legal matters with the appropriate professional.