FollowIf you fail to report your “Required Minimum Distribution” (RMD) in your tax return, you can get stuck with as much as a 50% penalty. However, there’s a way to obtain IRS permission to skip that penalty and it would be a good idea to consult your tax advisor to find out how rather than make a pricey mistake.
IRA owners generally must take annual RMD’s, per IRS tables, once they reach the age of 70 1/2. The RMD rules apply to traditional IRA’s, SEP IRAs, and SIMPLE IRAs, as well as to employer-sponsored retirement plans. Roth IRA beneficiaries have RMDs, as do all IRA beneficiaries and any shortfall (even for tax-free Roth IRAs) are subject to a 50% fine.
If you’re an IRA account owner, you should receive a notice from your IRA provider, as required by law, to withdraw an RMD during the year, but beneficiaries do not receive this notice.
If an IRA owner does not withdraw the full RMD amount for any calendar year, the shortfall is subject to the 50% penalty.
Example:
A person’s RMD for 2013 is $23,000 and he only withdraws $3,000. This will give him a $20,000 shortfall and he will owe a penalty of $10,000.
Fortunately, however, the IRS may waive the penalty if the account owner can show the shortfall was due to “reasonable error “and then steps have been taken to fix it.
In order to qualify for this waiver, clients must file IRS FORM 5329 -Additional Taxes on Qualified Plans (including IRAs and Other Tax-Favored Accounts and, in addition, attach a letter of explanation.
RMD’s are required for Inherited IRA’s also. Kevin Thompson, CPA says “we were contacted recently by a client that had inherited her Father’s IRA. The brokerage never calculated the RMD for 2013 and when it was discovered they were unaware as to what should be done. Fortunately, this case ended favorably as the client took two RMD’s in one year as the catch up and the IRS was very forgiving as to the potential penalty.”
Even better:
As of 2007, a client who requests a penalty waiver on Form 5329 does not have to pay the penalty first and then request a refund.
Below are tips to avoid the 50% penalty:
Make up any shortfalls if you’ve missed one or more RMDs.
- Ask the IRA custodian to send you distribution checks without having taxes withheld to create a paper trail. Make copies of the checks and deposit them in a taxable bank account.
- File form 5329 for every relevant year. For example: If you have an extension to file your tax return until haven’t filed yet, you can attach your Form 5329 for that year to your tax return.
- Attach copies of the relevant check to each Form 5329. Example: If your shortfall for a previous year was $13,000, you can attach a copy of the $13,000 IRA distribution check to your Form 5329 for that year.
Do not file an amended tax return as part of this penalty waiver request as money that wasn’t withdrawn from an IRA in past years can’t be retroactively withdrawn
Make sure to properly fill out form 5329. File a separate form for each year.
- On line 50, enter the amount of the RMD that you’re required to take.
- On line 51, enter the total distributions that you actually took during that year.
- On line 52, enter “zero” (VERY IMPORTANT) and write “RC” (reasonable cause) and the amount you want waived in parentheses on the dotted line next to line 52. DO NOT ENTER THE AMOUNT OF THE SHORTFALL!
Submit a letter explaining the shortfall with EACH form 5329. Attach a statement to each form 5329 stating that you’ve remedied the shortfall, as shown by the attached copy of the distribution check. Spell out the reasonable cause of the shortfall. (Illness, death in the family, problems with a tax preparer, the required notification of the RMD wasn’t received, stress etc.) You want the IRS to realize the RMD was overlooked and that you’re doing everything you can to make it right.
Once form 5329 is complete, sign and date it. Then mail your paperwork to the appropriate IRS office. A separate cover letter for each year in question should be included. The cover letter should list the contents of your submission such as Form 5329, a photocopy of the late distribution check, the reasonable cause explanation and any other materials.
If you follow these steps expect a notice from the IRS in a few months.
If you would like assistance with this process, make sure to contact:
Kevin Thompson CPA at
kevin@kevinthompsoncpa.com or call him @ (310) 450-4625.
