You missed an RMD—now what?

The first baby boomer turned 73 in 2018. Since then, an estimated 480,000 baby boomers have passed this deadline—the time when Required Minimum Distri­b­u­tions (RMDs) must begin—with another 120,000 approaching the deadline next spring. It’s an important deadline for those holding invest­ments in tradi­tional IRAs. Failure to take RMDs on time results in a 25% tax penalty on the amount of money required to be withdrawn.

Tradi­tional IRA accounts are not the only type of accounts with RMDs. Anyone reaching age 73 who holds funds in employer-sponsored plans, such as 401(k)s or 403(b)s, must also take RMDs (unless you qualify for the still-working exemption).

And RMDs are not just for those reaching age 73. Non-spouse benefi­ciaries of a tradi­tional IRA or Roth IRA may be subject to taking RMDs, which in this case depends on when the original account holder passed away:

If the account owner died on or before December 31, 2019, RMDs begin by December 31 of the year after the year the owner died. If the account owner died after December 31, 2019, the ruling is a bit different. Non-spouse benefi­ciaries have until December 31 of the tenth year after the year the owner died to empty the account, in addition to distri­b­u­tions for each of the 10 years.. Be sure to check if the deceased owner was subject to RMD require­ments, and if so, whether they took RMDs before the IRA converted to a benefi­ciary IRA.

If this is starting to sound compli­cated, that is because it is. RMD rules can be highly complex. Taxpayers often make mistakes by taking the wrong RMD amount, taking an RMD from the wrong account (or the wrong type of account), or missing an RMD altogether.

Fortu­nately, the IRS recog­nizes how compli­cated RMD rules can be. It is willing to waive the 25% penalty when the mistake is a reasonable error and the taxpayer takes reasonable steps to make it right.

If you’ve missed an RMD, here’s what to do to correct the error

1. Take the RMD as soon as you discover you have missed it. It’s best to take it as a separate distri­b­ution (not comingled with the current year).
   
2. After taking the RMD, file Form 5329 for each year an RMD was missed. Note that the form should be the version for that year (i.e., reporting a missed RMD for the tax year 2022 should be done on a 2022 Form 5329). The IRS website contains downloadable versions of Form 5329 going back to 1975
   
   The following steps are from the 2022 Form 5329:
   
   Line 52: Minimum required distri­b­ution
   On this line, indicate the total amount of the RMD. Only include the total for the accounts that had a shortfall.
   
   Line 53: Amount actually distributed
   List the amount that was taken. If nothing was taken, enter zero.
   
   Line 54: Subtract line 53 from line 52
   When seeking a waiver of the penalty, enter a zero on this line. To the left of the line, write “RC” (abbre­vi­ation for reasonable cause). Beside RC, write the amount of the RMD shortfall.
   
   Line 55: Additional tax. Enter the applicable percentage on line 54
   When seeking a penalty waiver, this line will also be zero. Even if the taxpayer does not receive a waiver, they are not required to pay the penalty in advance.
   
   
3. Repeat this procedure for each tax year an RMD shortfall occurred, using Form 5329 for that year.
   
   
4. Write a letter of expla­nation stating your case for why the IRA should waive the penalty. The letter should be brief and cover the relevant points:
   
   • The reason the RMD was missed
   • The fact that the RMD has now been taken
   • The steps you’ve taken to ensure future RMDs are made on time
     
     
5. Mail the completed form(s) to the IRS as a stand­alone form, along with the letter of expla­nation, and be sure to sign the form.
   
   Note: There is no need to file a 1040X to amend your taxes for the year the RMD was supposed to be taken. Tax on the amount taken to correct the missed RMD will be due in the year the funds are distributed.

Some taxpayers do not think they need to correct missed RMDs going back further than three years. This miscon­ception comes from the IRS website regarding audits:

“Generally, the IRS can include returns filed within the last three years in an audit. If we identify a substantial error, we may add additional years. We usually don’t go back more than the last six years.”¹

The keyword here is “generally.” The IRS can audit the most recent three years for any reason. It can go back six years if there is a “substantial under­statement of income,” defined as under­stating tax liability by 10% or $5,000, whichever is greater. But there is no statute of limita­tions in the event of fraud.

When you find an RMD error, the wise course of action is to fix it promptly and file Form 5329 to seek relief from the penalty. The IRS generally grants relief when errors are self-reported and rectified promptly.

Rick’s Insights:

• Failure to take RMDs on time results in a 25% tax penalty.
• Taxpayers often make mistakes by taking the wrong RMD amount, taking an RMD from the wrong account (or the wrong type of account), or missing an RMD completely.
• The IRS often grants relief of penalty for missed RMDs when they are self-reported and rectified promptly using Form 5329.

Origi­nally Posted October 17, 2019