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May 2002

Q. Are there any changes affecting Required Minimum Distributions (RMD)s in the recently finalized IRS regulations for IRAs?

A. The IRS first released its proposed regulations for IRAs and other qualified plans in January 2001. The final rules, released April 17, 2002, and effective as of January 1, 2003, generally keep last year's simplifications and add some new elements, incorporating many suggestions that were made after the proposed regulations were released. (However, the section dealing with annuity payments has been substantially changed and was issued as a temporary regulation, giving taxpayers a chance to offer additional feedback.) The final rules make it easier for taxpayers to calculate their required minimum distribution (RMD), and, in general, reduce the resulting amount. This means that people can stretch out their payments - and enjoy the tax shelter - for a longer period of time. The final rules also address a number of aspects related to the designated beneficiary, but here we'll focus on the new rules for RMD calculations.

According to the Federal Register, IRA owners must begin taking an annual RMD from their account on "April 1 of the calendar year following the calendar year in which the [taxpayer] attains age 70 1/2, even if the [person] has not retired" (Vol. 67, No. 74, p. 18988). Taxpayers determine their RMD by dividing their account balance by the appropriate distribution period. The good news is that the distribution period is now based on one uniform table, with an identical distribution period for almost all taxpayers of the same age. The table is based on the combined life expectancy of the individual and a hypothetical beneficiary who is ten years younger. If the sole beneficiary is a spouse who is more than ten years younger, it is possible to use another calculation, instead of the uniform table, which extends the distribution period. Moreover, the new rules include updated life expectancy figures that reflect projected mortality improvement through 2003. The end result is that most taxpayers can use a longer distribution period with a lower annual RMD.

After the individual's death, the RMD is generally calculated using the beneficiary's remaining life expectancy (based on the beneficiary's age in the year after the individual's death, which is reduced by one for each following year). If there is no designated beneficiary, the RMD is based on the individual's life expectancy in the year of death (and reduced by one for each following year).

In the past, RMD calculations were criticized for using too many variables that could change in the individual's life during any given year. This would complicate the calculations by creating different parameters for different times of the year and by making many people unsure how to determine the RMD accurately. In response, the final rules include some additional simplifications. For example, a person's marital status is determined on January 1, regardless of whether divorce or a spouse's death occurs later that year. If the beneficiary changes, due to a spouse's death, any changes in the life expectancy calculations will not come into play until the following year. Also, the account balance of an IRA or other qualified plan is now determined by the balance on the preceding December 31; any contributions or distributions made after that date are disregarded, when computing the RMD for the following year. For example, if on December 31, your IRA balance is $50,000, and you add $2,000 on Jan. 1 of the following year, your RMD calculation is based on the $50,000, not $52,000.

Taxpayers will also be getting additional help in calculating their RMD. The new rules specify that, beginning in 2003, banks, brokers, and other IRA trustees must report the RMD amount to IRA owners or calculate it for them upon request. The trustees are not required to report the RMD to the IRS, but, beginning in 2004, they will have to identify to the IRS each IRA for which an RMD is required. So taxpayers will also have to be extra careful to not miss any required distributions, since the IRS will have a complete report on which IRAs to check.

According to IRS News Release IR 2002-50, dated April 16, 2002, taxpayers have several options for the 2002 tax year regulations. They may use the final 2002 regulations, the 2001 version of the proposed regulations, or the original 1987 version of the proposed regulations.

With all of these options to consider and the complexity of the rules themselves (not withstanding their supposed "simplification"), we highly recommend consulting a qualified tax professional before you need to take any required distributions, and continuing to consult with them on at least an annual basis, as your situation changes and modifications to the rules are released.

Uniform Table - from Federal Register April 17, 2002 (Volume 67, Number 74, p.19012)

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