Delaying RMDs Under Secure 2.0? Beware the 'Great Tax Crunch'

‘Tax Crunch’

“It’s ‘The Great Tax Crunch,’” says Jeff Levine, a certified public accountant and financial planner at Buckingham Wealth Partners. “Fewer years of forced distributions plus fewer years of possible distributions means there is the potential for a lot more income to be squeezed into a lot smaller number of years.”

The issue merits a careful look. There had been some confusion since the 2019 change about whether beneficiaries must take regular distributions in each of the 10 years after the accountholder’s death, or just be sure to drain it within the 10-year window.

The IRS proposed rules in February that mandated annual withdrawals by heirs if the original owner had died after the required start date for distributions.

Given the confusion, the agency said it won’t begin issuing penalties until 2023 for heirs who fail to take annual withdrawals under the new rule. And now, thanks to changes in the current year-end bill, punishments have been eased. Amounts not withdrawn as required will be subject to a 25% tax — half what it was before — and as little as 10% if the withdrawal is made soon enough.

If delaying distributions still seems like the way to go, wealthy savers may be able to use the extra time they’re given to convert some of an IRA to a Roth IRA, says Ed Slott, a certified public accountant who specializes in IRAs.

With a Roth IRA, you pay tax upfront and enjoy tax-free withdrawals after the age of 59 and 1/2, as long as the money has been in the account for at least five years. Converting to a Roth IRA is often best-suited for those in their early 70s when income is relatively low (so the tax rate applied to the conversion amount is lower) and required minimum distributions haven’t yet started (to avoid having to pay taxes on the distribution at the same time you’re paying taxes on a conversion.)

With Roth IRAs, accountholders aren’t subject to required minimum distributions for that money, so it can continue growing for their heirs. A Roth IRA is generally more advantageous for heirs, too, because they don’t have to pay taxes on withdrawals if the money has been in the account for five years.

So, yes, the new government spending package holds some potential advantages for wealthy retirees, but they don’t come without potential trade-offs. Thinking it through from all the angles will help you make the decision that’s best for you.

Alexis Leondis is a Bloomberg Opinion columnist covering personal finance. Previously, she oversaw tax coverage for Bloomberg News.

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