QRP to IRA indirect rollover spanning two calendar years
Client, age 74, retires from employer in 2021, and takes full distribution from the company’s 401k in early Dec. 2021. For sake of simplicity, disregard the issue of the 20% mandatory withholding.
All of the money is redeposited into an IRA within the 60-day window on January 15th, 2022.
Am I correct in saying that Client had an RMD due from the 401k at the end of 2021, based on 12/31/20 year-end balance? If so, then am I also correct in saying that part of the rollover was ineligible – i.e, the RMD amount?
And if all that is correct, what about an RMD due from the IRA at the end of 2022? There was no 12/31/21 year-end IRA balance. Does Client get a free year of no RMD, or is he (as I suspect) required to treat the rollover as having been completed in 2021 meaning the IRA is treated as having a 12/31/21 balance?
Please and thank you.
Permalink Submitted by Alan - IRA critic on Tue, 2022-01-11 21:08
Both of these questions are addressed in IRS Reg 1.401(a)(9)-7 (Rollovers and transfers). The lump sum distribution from the 401k included the 2021 RMD, and that portion was therefore not eligible for rollover and became an excess IRA contribution that must be removed with allocated earnings. The earnings would be taxable in 2022 because the excess IRA contribution was made in 2022.
You are correct about the 401k 2021 RMD requirement because 2021 was the first RMD distribution year due to the retirement occurring in 2021.
There are no free RMD years that a rollover strategy could generate. In this case, the amount of the RMD that was incorrectly rolled over must be added to the 12/31/2021 IRA balance used to determine the 2022 IRA RMD. As such, RMDs were due and distributed for 2021 from the 401k, and for 2022 will be due from the IRA.
Note that the excess contribution withdrawal including earnings from the IRA cannot be used to either reduce the imputed 12/31/2021 IRA valuation, and neither will the corrective IRA distribution in 2022 count toward the IRA 2022 RMD. (Cite IRS Reg 1.408-8, QA 11). For example, if the 401k RMD was 20k and should not have been rolled into the IRA, but because it was it increases the imputed IRA year end value for determining the 2022 IRA RMD, and then the corrective distribution does not count toward that IRA RMD. The net result is a somewhat higher 2022 IRA RMD than it would have been without the excess contribution having been made.
Permalink Submitted by Robert Vashko on Tue, 2022-01-11 22:09
Thanks, Alan. As far as the 2022 RMD due from the IRA (and assuming this is the client’s only IRA), would you agree that placing the full account balance into a QLAC in 2022 would not eliminate the RMD due on 12/31/22, and would actually make the situation worse – i.e., by virtue of the QLAC, there would no liquidity in the IRA to satisfy the RMD.
Permalink Submitted by Alan - IRA critic on Tue, 2022-01-11 23:27
Yes, I agree that purchase of a QLAC at 72 will not decrease the RMD for that year, which is calculated from the prior year end balance before the QLAC purchase. The RMD reduction begins in the year following the QLAC purchase when the QLAC is no longer included in the year end value. This is the consensus decision regarding IRA annuitizations as well, even though the IRS does not provide specific guidance as such.
But note that the max QLAC purchase is the lower of 135,000 or 25% (not 100%) of the prior value for all IRA accounts. Therefore, a max QLAC purchase will still leave plenty of IRA liquidity outside the QLAC.