For a beneficiary of retirement plan assets to take advantage of some of the important benefits provided by the final required minimum distribution (RMD) regulations (issued on Apr 17, 2003), he or she must take certain actions by specific deadlines. In this article we review these deadlines and their associated benefits. For a review of the various options available to beneficiaries, see part 1 of this series.

Dec 31: Deadline to Avoid Penalty and Establish Separate Accounting

Avoiding Excess Accumulation Penalty
As we mentioned in part 1, beneficiaries who are required to distribute the assets under the life-expectancy method must determine and distribute a minimum amount each year. These distributions must begin by Dec 31 of the year following the year the participant dies. Failure to distribute the required amount by this date will result in the beneficiary owing the IRS an excess accumulation penalty, which is 50% of the distribution amount.

If the participant died before the required beginning date (RBD), the beneficiary may distribute the amounts over his or her life expectancy, either by election or default. Should the beneficiary fail to distribute the first amount by Dec 31 of the year following the year of death, the penalty will be waived if the total account balance is distributed by Dec 31 of the fifth year following the year of death. In other words, the penalty will be waived if the beneficiary switches to the five-year rule.
Separate Accounting
For beneficiaries who distribute assets under the life-expectancy method, distributions must generally occur over the life expectancy of the oldest beneficiary. This is not an issue for someone who is the only beneficiary. But for individuals who are considerably younger than the oldest beneficiary, this life-expectancy rule can be a financial-planning inconvenience since younger beneficiaries are forced to distribute a much larger amount than would be required had they been able to use their own life expectancies.
Regulations do, however, allow each beneficiary to use his or her own life expectancy if each allocates his or her portion to a separate account by Dec 31 of the year following the year the retirement account owner dies. The following example illustrates a possible difference in post-death RMD amounts.

Example John designated the following individuals as the primary beneficiaries of his IRA: Dick, who is age 65 in 2003. Tom, who is age 45 in 2003. Harry, who is age 25 in 2003. John died at age 75 in 2002. The beneficiaries must distribute the assets using the life expectancy option. The balance of the IRA as of Dec 31, 2002, is $900,000, which is to be shared equally. Scenario One The beneficiaries failed to establish separate accounting for the assets by Dec 31, 2003. The amount that must be distributed by each beneficiary for 2003 is $14,286, which is the amount that results from dividing each person's share of $300,000 by Dick's life expectancy of 21. To determine the minimum amount to distribute for 2004, each beneficiary must divide their balance at Dec 31, 2003, by Dick's adjusted life-expectancy factor of 20 (21 - 1). For each subsequent year, each beneficiary's minimum distribution must be re-calculated using Dick's life expectancy, which is re-adjusted each year by subtracting 1. Scenario Two The beneficiaries established separate accounting during 2002. The amount that must be distributed for each beneficiary for 2003 is the following: Dick - $14,286, which is determined by dividing $300,000 by Dick's life expectancy of 21. Tom – $7,732, which is determined by dividing $300,000 by Tom's life expectancy of 38.8. Harry –$5,155, which is determined by dividing $300,000 by Harry's life expectancy of 58.2. As you can see, Tom and Harry are able to distribute smaller amounts and therefore owe less tax, have more flexibility with financial planning, and have a longer period to stretch the IRA payments. Scenario Three The beneficiaries established separate accounting during 2003. The amount that must be distributed for each beneficiary for 2003 is $14,286, which is determined by dividing each person's share of $300,000 by Dick's life expectancy of 21. Dick's life expectancy must be used because separate accounting was not established prior to 2003. However, since separate accounting was established by the deadline of Dec 31, 2003, each person's distribution for subsequent years may be determined by using his own life expectancy.

Pre-Death Account Allocation: an Option for Separate Accounting
Before his or her death, the retirement plan participant may help his or her beneficiaries avoid being forced to use the oldest person's life expectancy by establishing an account for each beneficiary. Each account then would have only one beneficiary.

Oct 31: Deadline to Provide Trust Instrument
Generally, the life-expectancy option is not available to a non-person beneficiary, such as a trust, estate or a charity. However, an exception is allowed for qualified trusts. If a qualified trust is the beneficiary of the retirement account, then the life expectancy of the oldest underlying beneficiary of the trust may be used to determine RMD payments, including those to beneficiaries. A trust must meet certain requirements in order to be considered qualified. One important requirement is that the trust instrument must be provided to the IRA trustee, custodian or plan administrator by Oct 31 of the year following the year of the participant's death. An exception applies if the participant's spouse is the sole primary beneficiary of the retirement account and he or she is more than 10 years younger than the participant. In this instance, the trust instrument must be provided by the RBD.

Sept 30: Deadline to Determine Beneficiary
For purposes of determining life-expectancy factors, the designated beneficiary is determined on Sept 30 of the year following the year of the participant's death. This is very important for a retirement account with multiple beneficiaries, as beneficiaries remaining after Sept 30 may affect the stretch period or remaining life of the retirement account.

Say for example a participant who died before the RBD named his two children and a charity as the beneficiaries of his retirement account. Because one of the beneficiaries has no life expectancy, or is a non-person (the charity), the assets for all three beneficiaries must be distributed by Dec 31 of the fifth year following the year of the participant's death. However, this can be avoided if the charity distributes its portion of the assets by Sept 30 of the year following the year the participant died. For more information, see The Importance of Sept 30 for Multiple Beneficiaries of a Retirement Account.

Conclusion
If you are a beneficiary of a retirement account, it is essential you are aware of the important dates outlined above. Adhering to these deadlines not only ensures that you take advantage of the benefits provided by RMD regulations, but also helps you avoid penalties. Beneficiaries should consult with their financial consultants or tax professional to ensure options are thoroughly explored and where there is a choice, the most suitable one is selected.

by Denise Appleby (Contact Author | Biography)

Denise Appleby is a retirement plans consultant, freelance writer and editor. Before starting her own business, Appleby Retirement Consulting, Denise worked for Pershing LLC for almost 10 years. While at Pershing, Denise rose to the rank of vice president, and held many positions including retirement plans product manager, manager of the retirement plans technical assistance group and retirement plans training manager. Appleby Retirement Consulting provides technical assistance to financial institutions and financial professionals; content for newsletters, websites and magazines; and technical editing services for books and other retirement plans material. Denise holds several retirement professional designations.