By John H. Robinson, Financial Planner (April 2024)

Last week, the IRS issued Notice 2024-35, which provided long-awaited guidance on whether non-spouse and not-eligible designed beneficiaries (NEDBs) who inherited IRAs and/or retirement accounts from decedents who passed in 2021 or later will face required minimum distributions beginning in 2024. The shortest summary of the Notice is that the IRS will NOT require RMDs on post-2019 inherited IRAs in 2024 but will issue guidance on required minimum distribution rules beginning in 2025 and beyond.

The SECURE Act was a Trojan Horse That Contained a Massive Stealth Tax

The Setting Up Every Community for Retirement Enhancement Act of 2019, better known as the SECURE Act is a broad-reaching piece of legislation that, as its name suggests, expanded retirement and education savings options for millions of Americans.  It also contained one of the largest stealth tax increases in modern history.  Specifically, the SECURE Act eliminated the ability of most non-spouse IRA and qualified retirement plan (401(k), 403(b), etc.) beneficiaries to stretch the taxable distribution of inherited pre-tax assets over their lifetimes and replaced it with a requirement that the inherited retirement accounts be emptied within 10 years of the decedent’s date of death. 

Since the vast majority of beneficiaries inherit retirement accounts in their prime earnings years (age 40-60), the result of this legislation is that millions of Americans will be forced to take large taxable distributions from their inherited accounts during years in which their incomes are in the highest marginal tax brackets.  According to a Kiplinger article published shortly after the law’s passage, The Congressional Research Service estimated that the new rule would generate approximately $15.7 billion in just the first ten years (still before the bulk of the Baby Boomers begin passing on their accumulated trillions in retirement wealth to their beneficiaries).

IRS Adds Insult to Injury with RMDs

If there was any solace to retirement account beneficiaries in the SECURE Act it was that, in reducing the lifetime RMD stretch to a 10-year distribution period, consumers who inherit IRAs would no longer need to calculate RMDs and would at least have the flexibility to spread their distributions out over a number of years.  However, while Congress represents the legislative branch of government, when it comes to drafting tax laws, it leaves the task of interpretation and implementation to the IRS. 

On the issue of inherited retirement accounts, IRS concluded that Congress’ intent in eliminating stretch IRAs was to generate more tax revenue sooner.  In pondering this further, IRS determined that beneficiaries of inherited retirement accounts from decedents who passed away after they had begun taking RMDs should also be subject to continuing RMDs in addition to the 10-year distribution period.  IRS expressed this position in a 275-page proposal in February 2022.  However, the pushback and confusion sparked by the proposal led the IRS to waive the RMD requirements for 2021 and 2022.  The agency punted again on issuing final regs in 2023.

How to Interpret IRS Notice 2024-35

For thousands of post-2019 retirement account beneficiaries Notice 2024-35 provides a degree of clarity and relief insofar as we now know that no RMDs will be required for the 2024 tax year.  However, by announcing that RMDs will be waived for 2024, IRS also makes clear that it does indeed intend to implement RMDs.  However, exactly how the RMDs will be calculated and even whether the RMDs will only be applied to the inherited accounts of decedents who were already subject to RMDs when they passed remains to be seen.

My advice to post-SECURE Act  inherited  retirement account beneficiaries is to plan your distributions around the known tax laws.  Specifically, we know the Tax Cuts and Jobs Act will sunset on 12-31-2025 after which time marginal tax rates will return to higher 2017 levels and standard deductions will be halved.  For some inherited account holder, it may be wise to fill up lower tax-brackets with distributions this year and next regardless of RMDs.  Along the same, lines, waiting until the end of the 10 year period may be a sub-optimal tax planning strategy for beneficiaries of large retirement accounts irrespective of RMDs in the meantime (i.e., it may be more tax-efficient to spread it out over multiple years at lower top marginal brackets. 

Related Reading

What Investors Need to Do Before the Tax Cuts and Jobs Act Expires (Morningstar)

2024 Inherited RMD Relief Announced! What Beneficiaries Need to Know (Notice 2024-35) (The Street.com)

John H. Robinson is the owner/founder of Financial Planning Hawaii and Fee-Only Planning Hawaii. He is also a co-founder of fintech software maker Nest Egg Guru.