Advanced Underwriting Consultants

Ask the Experts – May 29

Ask the Experts!

The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers. Here’s the question of the day.

Question: My client inherited an IRA from her mother in 2009. Is it too late to elect to stretch the required distributions?

Answer: Surprisingly, it’s not too late.

The IRS released private letter ruling (PLR 200811028) in which it allowed a taxpayer to make the stretch election after the first year has passed. In this ruling, an individual inherited an IRA but failed to take a distribution for two years. During the third year, the taxpayer requested the ability to stretch by (1) taking a distribution for each of the first two years that she failed to take the required distributions; (2) paying the 50% penalty for not taking the first two years of RMDs; and (3) continuing on the normal stretch path thereafter. The IRS gave the taxpayer its blessings.

Let’s say your client had a life expectancy of 30 years in 2010 (the first year in which distributions are required), and the annuity was valued at $300,000 on the last day of 2009. The RMD required by December 31, 2010, is $10,000. Assuming the funds in the account grow at 6% per year, the next three RMDs are $10,621 (2011), $11,281 (2012) and $11,983 (2013).

Based on PLR 200811028, your client could make the election to stretch by December 31, 2014, but she would be subject to a 50% penalty each year for the amount she failed to withdraw. From the example above, she would accumulate a $21,942 penalty from the four years she failed to take the required distributions from 2010 through 2013. Additionally, she needs to take the RMDs that she missed between 2010 and 2013 ($43,884), which is taxed as ordinary income.

While this is costly, it should be weighed against being hit with an immediate $300,000 of ordinary income. Four years of penalties, however, probably renders this option unusable, but if the client is fairly young and only missed a year or two of RMDs, the penalty might be worth it.

Have a question for the professionals at AUC? Feel welcome to submit it by email. We may post your question and the answer as the question of the day.