IRS: RMD Rules Apply Regardless of State Court Ruling

By John Iekel • July 12, 2016 • 0 Comments
A new private letter ruling (PLR) from the IRS says that the required minimum distribution (RMD) rules apply to a designated IRA beneficiary even though a state court modified the beneficiary designations. The IRS released PLR 201628006 on July 8.

Note that PLRs are applicable only to the specific case they concern; they may not be regarded as precedent applicable to other situations. They do, however, provide an indication as to how the IRS approaches a particular matter or situation.

The Facts

A decedent maintained two IRAs with Custodian A and worked with financial advisors that custodian employed. Consistent with the overall estate plan, he named Trust C as a 50% beneficiary and Trusts D and E as 25% beneficiaries of the IRAs in a year after that which included his required beginning date under Internal Revenue Code Section 401(a)(9).

Later that year, the decedent’s financial advisors joined another firm and became affiliated with another custodian. The decedent subsequently met with one of the financial advisors to transfer the IRA assets to the new custodian. The financial advisor provided a beneficiary designation form for the decedent’s signature that named his estate as the sole beneficiary. The decedent signed that form and the assets of the two IRAs held by the first custodian were directly transferred to a new IRA held by the new custodian. It has been represented that, although the decedent signed the beneficiary designation form, he merely intended to move assets from one custodian to the other and that he did not intend to change beneficiaries.

The Court Weighs in

After the decedent died, the trustees of the trusts petitioned the court for a declaratory judgment that would modify the beneficiary designation for the new IRA to carry out the original estate plan. Based on its finding of decedent’s intent, the court ordered that the beneficiaries of that IRA are those specified in the decedent’s prior beneficiary designation. The order was retroactively effective as if the designation were made on the date the decedent signed the beneficiary designation form for the new IRA.

The Ruling

The IRS was asked to state in a PLR that the life expectancy of the beneficiary of Trust C, based on the birthday that the beneficiary will attain in the year after the decedent’s death, may be used to determine the Section 401(a)(9) “applicable distribution period” regarding the portion of the new IRA payable to Trust C.

The IRS said that under Treas. Reg. §1.401(a)(9)-4, Q&A-3, an estate cannot be a “designated beneficiary” for purposes of section 401(a)(9), and that accordingly, there was no “designated beneficiary” of the new IRA for purposes of Section 401(a)(9).

The IRS said that because the estate was named as the beneficiary of the new IRA at the time of the decedent’s death and an estate cannot qualify as a designated beneficiary under Section 401(a)(9), the new IRA did not have a designated beneficiary. Since the decedent died after the required beginning date and without a designated beneficiary, the assets of the new IRA must be paid out over the applicable distribution period that Treas. Reg. §1.401(a)(9)-5, Q&A-5(c)(3) specifies. That section provides that for an employee who does not have a designated beneficiary, the applicable distribution period measured by the employee’s remaining life expectancy is the life expectancy of the employee using the age of the employee as of his or her birthday in the calendar year of their death. In subsequent calendar years, the applicable distribution period is reduced by one for each calendar year that has elapsed after the calendar year of the employee’s death.

In addition, said the IRS, although the court order changed the beneficiary of the new IRA under state law, the order cannot create a “designated beneficiary” for purposes of Section 401(a)(9). “Courts have held that the retroactive reformation of an instrument is not effective to change the tax consequences of a completed transaction,” according to the PLR.