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Set forth below are examples of seven scenarios under which an IRA trustee would be unable to report an accurate RMD amount to an IRA owner or the Service.
Example 1: Exceptions to the "Uniform Table" Rule
Generally, IRA trustees do not have date of birth information for the beneficiaries of IRAs. Therefore, IRA trustees will not be aware of situations where a spousal beneficiary is more than 10 years younger than the IRA owner and is eligible to take advantage of the exception to the Uniform Table calculation. This will result in IRA trustees reporting larger RMD amounts than required under the RMD rules to this class of IRA owners. If the Service relies on such inaccurate RMD reports, it could result in the Service sending "RMD error" notices to taxpayers who did indeed comply with the rules.
Example 2: Date of Birth of IRA Owner, Spouse and Other Beneficiaries
IRA trustees do not have date of birth information for all of their IRA accounts. Although today’s IRA application forms typically ask for the IRA owner’s date of birth, it is not required to open an account, and many IRA owners refuse to provide it. The problem is more significant in older IRA accounts, because the information was less frequently included as part of the account application.1 Many IRA trustees have attempted to obtain date of birth information through subsequent mailings to IRA owners with limited success. Our members indicate that they lack IRA owner date of birth information for anywhere from 2% to 15% of their IRAs. Without this basic information, IRA trustees cannot identify when an IRA owner becomes subject to the RMD rules or utilize the Uniform Table under the new rules to calculate RMD amounts, because the table is based on the IRA owner’s age.
An even greater problem exists with respect to date of birth information for spouses and other beneficiaries. Trustees typically do not retain this information.2 A new reporting requirement that would require IRA trustees to retain this information would be extraordinarily burdensome. IRA trustees would need to gather this information from an estimated 43 million IRA households and 86 million IRA accounts. 3 This requirement would impose a significant burden on IRA trustees and increase the cost of IRA administration.
Example 3: Death of IRA Owner or of Beneficiary
IRA trustees frequently are not informed on a timely basis about an IRA owner’s death. They depend upon the estate of the IRA owner, the IRA’s beneficiaries or the family of the IRA owner to inform them in the event of a death. The IRA owner’s family or the IRA’s beneficiaries, however, have no legal duty to report the death of an IRA owner to the trustee. As a result, IRA trustees typically learn of the IRA owner’s death at the time a beneficiary requests a distribution. This frequently occurs in a calendar year other than the year of death. Under the Proposed Regulations, absent timely information regarding a death, an IRA trustee would calculate and report inaccurate information to the IRA owner (now deceased) and the Service.
It is even more difficult, if not impossible, for IRA trustees to track the death of beneficiaries – especially where the beneficiary predeceases the IRA owner. IRA owners typically neglect to update their IRA designations in such instances. Furthermore, current reporting systems do not maintain information for both the IRA owner and beneficiary of the IRA. Therefore, it would be difficult to maintain information concerning the date of death of the IRA owner with respect to the beneficiary account. Because certain beneficiaries must use their age at the time of the death of the IRA owner and subtract one for each additional year, IRA trustees would need to maintain this information to calculate a beneficiary’s RMD properly. The task becomes even more difficult when the beneficiary dies and the beneficiary’s beneficiary (or successor beneficiary) assumes distributions.
Example 4: Beneficiary Information
IRA trustees often have limited or no information concerning the identity of the beneficiaries of an IRA account, and cannot always identify the beneficiaries of an IRA account or the relationship of the beneficiaries to the IRA owner. As noted above, they do not always know for instance, if the IRA owner has a spouse, whether the spouse has died, whether the spouse was the sole beneficiary for the entire year, whether there was a death or divorce and there is a new spouse, whether there is a non-spouse beneficiary, etc.
Other beneficiary designations that would make it very difficult to ensure proper reporting include whether a trust meets the conditions to look through to the beneficiaries of the trust and if so, whether a spouse is the sole beneficiary of the trust and whether he or she is more than 10 years younger than the IRA owner. Similarly, an IRA owner’s designation of a "class" of beneficiaries, (e.g., "per stirpes," "all my children and all my grandchildren," etc.) also would cause substantial difficulties for an IRA trustee trying to report the proper RMD. In addition, obtaining necessary information related to these beneficiaries, such as dates of birth, Social Security numbers and current mailing addresses, to calculate the RMD for the beneficiary and execute proper reporting would be particularly difficult.
Example 5: IRA Rollovers/Transfers
Rollovers that cross calendar years present unique challenges. IRA owners and their beneficiaries often transfer their IRAs among financial institutions. Information necessary to calculate RMDs, however, typically does not transfer from one IRA trustee to another. For example, the Proposed Regulations state that if an amount is distributed by one plan in year 1 and rolled over to another plan in year 2, the rollover amount is treated as having been received by the other plan in year 1. 4 To comply with this rule, the IRA trustee receiving the rollover would have to adjust the prior year account balance to account for rollovers that are initiated in one calendar year and completed in the next. Trustees currently track and report financial transactions that occur within their complex only. A reporting requirement that would require trustees to report on transactions that occur outside their complex would significantly change the current tax reporting system. Because IRA trustees receiving rollover amounts cannot calculate the RMD based on the previous year’s ending balance at another institution (including the rollover amount), they would produce inaccurate RMD calculations.
Example 6: Multiple IRAs with Multiple Trustees
Many taxpayers have more than one IRA account, each of which is frequently custodied by a different financial institution.5 These taxpayers may calculate the RMD for each IRA, aggregate the calculated amounts and take the RMD from any one or more of their IRAs.6 Under the Service’s proposal, however, such taxpayers would receive a specific RMD calculation from the trustee of each individual IRA. Accordingly, many taxpayers are likely to infer that a specific amount must be withdrawn from each of their IRAs, contrary to regulations. Such distributions, of course, may not be in the taxpayer’s best interest, as taxpayers may choose to take distributions from IRAs depending, for instance, on the account’s performance for the year or based upon long-range investment planning or depending on personal estate planning objectives. Although IRA trustees presumably would indicate on their reports that the RMD amount reported need not be taken from a particular IRA, the apparent inconsistency will inevitably cause confusion.7
Example 7: Multiple IRAs and First Year Calculations
The Proposed Regulations clarify that if an IRA owner defers the first year RMD (the first RMD required after he or she turns 70 ½) until the first quarter of the following calendar year, the December 31 balance used for calculating the RMD for the second year must be reduced by the amount of the deferred RMD. 8 Due to the IRA aggregation rules, an IRA trustee will not know if an IRA owner deferred the RMD payment in that first year.9 Specifically, the IRA trustee has no way of knowing if the IRA owner has an IRA account with another trustee and if so, whether a distribution was made from it that would satisfy the RMD requirement.
1 Some financial institutions also have acquired blocks of IRA accounts through mergers and acquisitions where the prior IRA trustees did not keep date of birth records.
2 With respects to beneficiaries, IRA trustees typically ask for and retain only the beneficiaries’ names, addresses and Social Security numbers (if available) at the time the designation is made. If no designation is made, default beneficiaries are typically identified in the IRA trust agreements.
3 An estimated 42.5 million of US households owned IRAs, typically in two accounts. "IRA Ownership in 2000." ICI Fundamentals, Vol. 9, No. 5, October 2000.
4 See section 1.408-8 Q&A 7, which references section 1.401(a)(9)-7 Q&A 2.
5 "IRA Ownership in 2000." ICI Fundamentals, Vol. 9, No. 5, October 2000.
6 Notice 88-38, 1988-ICB 524.
7 The extent of the confusion will be even greater for some IRA owners, because some recordkeeping systems treat each individual investment of an IRA as a separate account. Under the Proposed Regulations’ reporting requirements, for example, an IRA owner with 3 IRA plans with 4 investments in each would result in 12 separate reports. The IRA owner may incorrectly believe that he or she would be required to take a distribution from each investment, which could be detrimental to his or her investment strategy.
8 Proposed Regulations, 1.401(a)(9)-5 Q&A 3(c).
9 In fact, the only time the IRA trustee could know this information is if the IRA owner took the deferred first year RMD from that particular IRA. Even then, the IRA trustee could not be sure that the IRA owner did not take the first RMD from another IRA and that the distribution from the trustee’s IRA was not intended to be for the second RMD year.