When a client fails to take a required minimum distribution, you usually want to seek a waiver of the 50% penalty that would apply to this mistake. My October 2015 column explained exactly how to apply for a waiver of this so-called excess accumulations tax, using IRS Form 5329. But for what year or years do you file that form? Do you have to file it for every year that has passed since the RMD was missed?
The usual rule is that the form is filed for the “distribution year” of the missed RMD–and that year only–but there are two exceptions to the general rule. These examples illustrate the variations.
Charlie Example: Charlie turns age 76 in 2019. In reviewing his IRA records, he realizes he failed to take the RMD for 2016 from one of his several IRA accounts. He had a serious illness that year, which caused him to lose track of some financial affairs and would constitute reasonable cause for the mistake. He knows he must file Form 5329 for 2016, now, reporting the situation and requesting a waiver. But two more years have passed; does he have to file the same form and penalty waiver request for 2017 and 2018, as well?
The answer is no. Charlie’s missed RMD continues to be considered an “RMD amount” in later years (until it’s distributed) for purposes of the rule that a required minimum distribution cannot be an eligible rollover distribution. But for penalty purposes, it’s one and done: He requests the waiver for 2016 only and files Form 5329 only for that year.
But that’s not always the case.
Cynthia Example: Cynthia’s father died in 2011, leaving his Roth IRA to his estate, of which Cynthia is the executor and sole beneficiary. Cynthia is a sculptor with limited knowledge of tax and legal matters, and no one (not the estate’s lawyer, nor the Roth IRA provider, nor her accountant) ever told her about the minimum distribution requirement. Under the minimum distribution rules, the Roth IRA was supposed to be entirely distributed no later than Dec. 31, 2016, the year that contained the fifth anniversary of her father’s death. Since that date, the Roth IRA’s value has soared due to some favorable investments. In 2019, Cynthia meets with her new advisor who points out that there was a 50% penalty due for the year 2016 because she did not cash out the account by the applicable deadline. Cynthia asks, “Why don’t I just pay that penalty for the year I was supposed to cash out the account, then leave the money in the Roth IRA forever, growing totally tax free?”
Sorry, Cynthia, that doesn’t work. The IRS has a special regulation covering the situation where the RMD is 100% of the account: In that case, if 100% of the account is not distributed by the end of that year, 100% of the account continues to be the required minimum distribution for penalty purposes for every year thereafter until it is actually distributed. As a result, Cynthia has to file Form 5329 (and beg the IRS to waive the penalty) not just for the year it was supposed to be distributed (2016), but also for 2017 and 2018. She can stop there, assuming she finally distributes the entire account in 2019.
Finally, there’s one exception to the rule that you must file for the distribution year.
Edith Example: Edith turned 70 1/2 in 2017, so the required beginning date for her IRA was April 1, 2018. She should have taken the 2017 RMD no later than April 1, 2018, and was required to take a second RMD (the one for 2018 itself) no later than Dec. 31, 2018. However, she did not take any distributions in either 2017 or 2018; her investment advisor told her she was not required to take distributions yet because she is still working. Unfortunately, the “still working” exception to the commencement of RMDs at age 70 1/2 never applies to IRAs. Edith learns this bad news from her accountant while preparing her 2018 tax return. Because of the erroneous advice she received, she probably has reasonable cause on which to base a request for waiver of the penalty, but does she have to file two Forms 5329, one for each distribution year she missed?
No. Because the deadline for both of those years’ RMDs fell in one calendar year (2018), she only has to file one Form 5329 and waiver request, for the year 2018.
Originally Published on Morningstar
Written by Natalie Choate