Non-spousal beneficiary of a 403(b) plan

Submitted by Brian Smith on Thu, 2017-07-20 19:32

In regards to a non-spousal beneficiary of a 403(b) plan it appears the IRS will allow the beneficiary to roll over into an Inherited IRA based upon the information I was able to find.

However the trustee of the current plan has indicated the current retirement plan is not set up for non-spousal beneficiaries to do inherited IRA’s. The beneficiary can take out all at once or over the next 5 years.

Are there and other options to take a distribution and use the 60 day window and then roll into an Inherited IRA?

Thank you for your help in advance.



Submitted by Alan - IRA critic on Thu, 2017-07-20 19:49

  • The plan trustee needs to review current portability provisions. WRERA, passed in Dec 2008 includes the following provisions which makes it mandatory for qualified plans to provide direct rollovers to non spouse beneficiaries just as such direct rollovers must be offered to participants upon retirement. Prior to this law, non spouse beneficiary direct rollovers were optional.  Any actual distribution will be fully taxable since a non spouse beneficiary cannot do an indirect rollover. Provision copied below.
  • ” Allow rollovers by nonspouse beneficiaries of certain retirement plan distributions (Act sec. 829 and Code sec. 402(c)(11), (f)(2)(A)) The Act permits rollovers of benefits of nonspouse beneficiaries from qualified plans and similar arrangements.  The provision clarifies that the current law treatment with respect to a trustee-to-trustee transfer from an inherited IRA to another inherited IRA continues to apply.  Under the provision, effective for plan years beginning after December 31, 2009, rollovers by nonspouse beneficiaries are generally subject to the same rules as other eligible rollovers.” 

Submitted by Ben Meyer on Fri, 2017-07-21 15:01

  • This is similar to a previous thread where you pointed out that a direct rollover to an IRA must be permitted by WRERA, specifically by amendments to sections 402(c)(11) and (f)(2)(A) pursuant to WRERA.  
  • But there is some ambiguity as to whether a direct rollover will allow lifetime distributions in the IRA where the plan specifies the 5-year rule for a death either before or after the RBD.  Notice 2007-07 states:

A-19.  “… The rules for determining the required minimum distributions under the plan with respect to the nonspouse beneficiary also apply under the IRA. Thus, if the employee dies before his or her required beginning date and the 5-year rule in § 401(a)(9)(B)(ii) applied to the nonspouse designated beneficiary under the plan making the direct rollover, the 5-year rule applies for purposes of determining required minimum distributions under the IRA.  If the life expectancy rule applied to the nonspouse designated beneficiary under the plan, the required minimum distribution under the IRA must be determined using the same applicable distribution period as would have been used under the plan if the direct rollover had not occurred. Similarly, if the employee dies on or after his or her required beginning date, the required minimum distribution under the IRA for any year after the year of death must be determined using the same applicable distribution period as would have been used under the plan if the direct rollover had not occurred.

  • Therefore, in view of A-19 is there any justification for a beneficiary to take lifetime distributions after transferring an account from a qualified plan to an IRA, either before or after the RBD of the decedent?  If the plan specifies the 5-year rule, does the date on which the transfer to an IRA is made have significance?  There are several qualified plan administrators that take the view that a transfer to an IRA will not allow lifetime distributions where the plan required the 5-year rule. 

Submitted by Alan - IRA critic on Fri, 2017-07-21 17:33

  • Check out the “Special Rule” in paragraph 2 of Q 17. If the direct rollover is done by the deadline, then the inherited IRA RMD would be based on LE.
  •  (2)  Special rule.  If, under paragraph (b) or (c) of Q&A-4 of § 1.401(a)(9)-3, the 5-year rule applies, the nonspouse designated beneficiary may determine the required minimum distribution under the plan using the life expectancy rule in the case of a distribution made prior to the end of the year following the year of death.  However, in order to use this rule, the required minimum distributions under the IRA to which the direct rollover is made must be determined under the life expectancy rule using the same designated beneficiary.
  • That said, not sure of the need or intent of the last sentence above. 

Submitted by Ben Meyer on Fri, 2017-07-21 22:39

Even allowing for the “Special Rule” when permitted by the plan, there is one corner case where the plan has adopted a plan provision with only a 5-year distribution period for death after RBD for a non-spouse beneficiary.  There are several 403(b) plans with such a provision.  For this situation it appears that a transfer to an inherited IRA would retain the same rule as provided by the original plan.  So the non-spouse beneficiary will be free to order a direct rollover to an IRA, but will still be limited to a five year payout period even after rollover to an IRA, per Notice 2007-07, Q&A-19.  A beneficiary may wish to perform such a rollover to deal with a more amicable plan custodian, lower fees, or other reasons.      

Submitted by Alan - IRA critic on Sat, 2017-07-22 00:30

That is news to me. I have never heard of a plan with a 5 year rule variation for death after the RBD unless the plan has been annuitized and falls under the DB/Annuity RMD rules rather than the individual account rules. Are you sure there is significant portion of 403b plans that incorporate a 5 year limit for death after the RBD?  The participant in such a plan should plan to do a direct rollover before their RBD if they are concerned with the downside of such a provision, since once they pass it will be too late for the beneficiary stretch. I wonder why a plan would have such a provision if they want to divest inherited assets, because  Q 19 eliminates the incentive for a direct rollover to an inherited IRA.

Submitted by Ben Meyer on Sat, 2017-07-22 19:05

  • Yes, I have seen a number of plans with a plan provision that restricts a non-spouse beneficiary to a 5-year rule for a decedent past RBD.  One of these is a 401(k) plan for a mid-size corporation.  I have also seen a 403(b) plan with a similar plan rule for non-spouse beneficiaries.  This 403(b) plan allows a stretch payout for a spousal beneficiary, but not for a non-spousal beneficiary, and mandates a 5-year distribution for a successor to a surviving spouse who is a natural person.  There have also been postings on this and other websites reporting a plan-imposed 5-year rule.  
  • Apparently some plans would like to close out the accounts of beneficiaries as quickly as possible and they resort to a plan provision to help accomplish that end.  If maintained with a stretch payout the accounts of beneficiaries usually have a declining balance and can present difficulties in administration that are not reimbursed by the fees from either from beneficiaries or the employer. 
  • The plan rules that cover these provisions are often quite obscure.  They are not described in either the Summary Plan Description or the plan document itself.  They are considered as “processing policies” and are only disclosed to those making a claim, as part of the rules accompanying the claim forms.

Submitted by Alan - IRA critic on Sat, 2017-07-22 19:25

Changes to IRS rules such as all the portability option expansions of the last 15 years were often driven by the financial industry. Proposed mandatory 5 year distribution requirements for non spouse beneficiaries as part of a tax bill is much more likely to be passed sooner if the financial industry takes the position that they would rather divest themselves of these non spouse beneficiary accounts than have larger amounts under management to reduce potential fees. Risks of estate driven litigation may also be driving this trend. Plan participants may need to inquire about this and move QRPs to IRA accounts where the trend may take some extra years to become entrenched with IRA custodians as well. Yes, it will take some adjustment to differentiate between the IRS statutory 5 year rule which only applies for death pre RBD from a plan imposed 5 year rule that could apply anytime.

Submitted by David Mertz on Sun, 2017-07-23 00:14

As I see it, a plan-mandated 5-year distribution requirement for participants dying after RBD is unrelated to the 5-year rule for RMDs for a participant who dies prior to RBD.  In order to satisfy section 401(a)(9), RMDs for a participant who dies after RBD would still have to be made based on the lifetime of the younger of the deceased and the beneficiary.  I can’t see that such a plan requirement (for participants dying after RBD) in any way requires an inherited IRA to which the participant’s account is directly rolled be distributed within 5 years since it’s not a statutory requirement.  (Regarding the original question, we don’t know if the deceased died before or after RBD.)

Submitted by Ben Meyer on Mon, 2017-07-24 05:13

  • On looking further into the question of whether a plan imposed 5-year rule transitions to an IRA along with the funds, it turns out that this question was first raised when Notice 2007-07 was originally released.  Confusion arose to such an extent between the general rule of Q&A-19 and the special rule of Q&A-17 that the IRS issued a special edition of the Employee Plan News with a clarification.  The IRS advised that Q&A-19 was a general rule and was not intended to override the special rule of Q&A-17(c)(2), which is the rule cited by Alan in the posting above.

“If, under a plan, the 5-year rule applies for determining required minimum distributions, a nonspouse designated beneficiary may, nevertheless, treat the plan as using the life expectancy rule provided the rollover into the IRA is made prior to the end of the year following the year of the participant’s death. Thus, despite a plan provision for the 5-year rule, the nonspouse designated beneficiary is permitted to treat the plan as using the life expectancy rule both for determining the amount eligible for rollover and for determining the required minimum distributions under the IRA, but only if the rollover is made prior to the end of the year following the year of the participant’s death.”  (IRS Employee Plan News, February 13, 2007.) 

  • The result is that any non-spouse beneficiary who inherits an account with a plan imposed 5-year rule merely needs to perform a timely direct rollover to a suitable IRA in order to take life expectancy stretch distributions.  The qualified retirement plan that imposes the 5-year rule is required to allow the rollover, due to WRERA.  Both the plan and the beneficiary should be satisfied wth the result.  The plan achieves its goal of closing the account after the death of the employee, and the beneficiary will be happy to receive a stretch payout from the IRA.

Submitted by Brian Smith on Mon, 2017-07-31 16:06

Thank you for the feedback, I appreciate it.

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