As Life Spans Grow, IRS Wants to Lower Retirement Plan Required Payouts

Comments sought on proposal to reduce required minimum distributions

Stephen Miller, CEBS By Stephen Miller, CEBS November 19, 2019
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Qualified retirement plans such as 401(k)s or similar defined-contribution plans must begin paying required minimum distributions (RMDs) when a participant reaches age 70 1/2. So must individual retirement accounts (IRAs) funded with pretax dollars. Plan administrators use life expectancy and distribution period tables to calculate RMDs over the life of a plan participant and any designated beneficiary.

On Nov. 7, the IRS proposed changes to the RMD rules, updating the life expectancy tables used in calculating required distributions. The new tables were developed based on projected mortality rates for 2021, explained Mike Barry, a Chicago-based senior consultant with advisory firm October Three. If finalized, they would reflect longer life expectancy assumptions and, consequently, reduce required distribution amounts.

The new tables would generally apply to distributions beginning Jan. 1, 2021. The IRS has opened a 60-day comment period on the proposal, ending Jan. 7, 2020. RMDs for 2020 are not affected and cannot be calculated using the new tables.

"This is the first time the tables have been updated since 2002, despite the fact that life expectancy has increased more than 2 percent (or 1.6 years) for all Americans, and more than 8 percent for Americans who have reached the age of 65," wrote Jeffrey Levine, director of advisor education for Kitces.com, a financial planning website.

Barry called the IRS proposal "a welcome improvement in current rules" and said it would allow participants to take distributions over a more realistic life expectancy period.

IRA providers and employer-provided retirement plan administrators (other than for plans that pay only lump sums) should "update the administration of their plans to reflect the updated life expectancy tables," advised RSM US LLP, an audit and tax consulting firm.

Big Savers Benefit Most

IRA analyst Sarah Brenner, writing for The Slott Report financial newsletter, noted that under the proposed changes, retirement plan participants "will be taking less each year as RMDs, allowing more tax-deferred growth over the years and resulting in more retirement savings." The Wall Street Journal reported that "the change amounts to a tax cut for retirees who don't need to tap their savings for living expenses."

But Levine cautioned that the effects of the change would be limited, given that IRS data show only roughly 20 percent of retirement plan participants are withdrawing no more than the current RMD dollar amount each year, while 80 percent are taking more than the required minimum, presumably because they lack other savings from which to pay their bills.

Also, Levine noted, if a retirement account subject to RMDs is valued at $1 million, the first year RMD would "only decrease by roughly $2,100 under the proposed changes," an amount that is "unlikely to significantly alter someone's overall financial picture later in life (especially for already-affluent retirees), even when considering that the RMD factors continue to increase through the years."

A Roth IRA Exception

The RMD rules can cause confusion because they apply to both traditional and Roth 401(k) plans and to traditional IRAs funded with pretax dollars, but Roth IRAs are exempt from RMDs.

As Marketwatch reported, "Roth 401(k)s, if they remain with your company after your departure or retirement, are subject to RMDs after age 70 1/2," but dollars in Roth 401(k)s "can be rolled into a Roth IRA, which is not subject to RMDs during the owner's lifetime."

The exception for Roth IRAs but not for Roth 401(k)s has led financial advisors to recommend that Roth 401(k) participants not leave their funds in their former employer's plan once they retire, if they don't need to withdraw funds for their account for living expenses.


[SHRM members-only toolkit: Designing and Administering Defined Contribution Retirement Plans]

Awaiting the SECURE Act

The Setting Every Community Up for Retirement Enhancement (SECURE) Act, passed by the U.S. House of Representatives in May, would allow retirees to delay taking RMDs until age 72, up from the current age of 70 1/2. "A theoretical $500,000 portfolio, earning 5 percent annually, would have $33,500 more at age 89 if the RMDs started at age 72," CNBC reported.

The SECURE Act is currently awaiting a vote by the U.S. Senate.

As with the IRS proposal to revise life expectancy tables, the SECURE Act's delay for taking RMDs "is geared toward the perception that Americans are working longer and living longer" and will need to make their savings last throughout their retirement years, said John Lowell, an Atlanta-based actuary and advisor with October Three.

Related SHRM Article:

Help Employees Turn Retirement Savings into Lifetime Income, SHRM Online, November 2019


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