Volume 2, Issue 11
The Wealth Counselor
New Planning Opportunities with Non-Spouse Rollovers
Before 2007, a non-spouse beneficiary of a qualified plan was stuck taking distributions under the terms of the plan, which typically required full distribution within five or fewer years of the participant’s death. The Pension Protection Act of 2006 (PPA 2006) authorized non-spouse beneficiaries (before it was only surviving spouses) to roll over to an Inherited IRA.
This issue of The Wealth Counselor looks at a very recent pronouncement from the IRS that finally makes this PPA 2006 provision useable and, therefore, is very beneficial to clients and all wealth planning professionals who understand its implications.
Apparent Good News in PPA 2006
PPA 2006 provides that, effective January 1, 2007, a non-spouse qualified plan beneficiary may be permitted to roll over to an Inherited IRA after the plan participant’s death.
The January 2007 IRS Roadblock
Unfortunately, the IRS focused on the “may” and quickly issued guidance that virtually eliminated the planning opportunity that PPA 2006 seemed to provide. In its January 29, 2007 Notice 2007-7, the IRS declared that a plan was not required to offer non-spouse rollovers, saying it was optional with the plan provider whether to adopt a plan amendment permitting non-spouse rollovers. Therefore, absent a voluntary plan amendment, a non-spouse was stuck using the plan’s payout period. And major plan providers did not offer such amendments to their prototype plans.
The October 2007 IRS Roadblock Removal
In late October the IRS issued its 2007 Interim and Discretionary Amendments, as follows:
“Section 402(c)(11) [Discretionary]:
PPA ’06 . . . added Section 402(c)(11) to allow nonspouse beneficiaries to roll over distributions from a qualified plan to an individual retirement plan. Nonspouse beneficiary rollovers are an optional plan provision for 2007. See, Notice 2007-7. Pursuant to an impending technical correction, nonspouse beneficiary rollovers will be required for plan years beginning on or after January 1, 2008.” (Emphasis added.)
This amendment appears to be in anticipation of a Congressional change to PPA 2006 to make it mandatory that qualified plans permit non-spouse rollovers. Read the full text of the IRS document.
What Does All This Mean for Your Clients?
Beginning January 1, 2008, non-spouse beneficiaries finally will be able to take advantage of the PPA 2006 provisions and roll over from a qualified plan into an Inherited IRA. In the Inherited IRA, the non-spouse beneficiary can use his or her own life expectancy to determine annual required minimum distributions (RMDs). This can significantly reduce the amount that the beneficiary must withdraw each year, thereby deferring income tax and allowing the account balance to continue to grow income tax free.
Implementation of a non-spouse rollover raises numerous pitfalls for the unwary. These pitfalls are identified in the Planning Tips that follow.
Planning Tip: The transfer must be DIRECTLY from the plan Trustee to the Inherited IRA’s Custodian or Trustee.
Planning Tip: Any distribution to a non-spouse beneficiary is a taxable distribution, subject to income tax. Therefore any check delivered by the plan Trustee MUST be made payable directly to the Inherited IRA Custodian or Trustee.
Planning Tip: Unlike with a surviving spouse rollover, the Inherited IRA must remain in the name of the deceased participant. The Inherited IRA should be titled like this: Account Holder, deceased, IRA f/b/o Beneficiary.
Planning Tip: DO NOT re-title the qualified plan in the name of the non-spouse beneficiary. That will be treated as a taxable distribution.
Planning Tip: DO NOT transfer from the qualified plan to an existing IRA in the non-spouse beneficiary’s name. That, too, constitutes a taxable distribution of the entire account.
Planning Tip: A non-spouse beneficiary must begin taking required minimum distributions from the Inherited IRA by December 31 of the year following the year of the participant’s death. Note: This is different from a spouse rollover, where the surviving spouse can defer required minimum distributions until attaining age 70 1/2.
Asset Management Opportunities
Planning Tip: Naming a trust as beneficiary also allows the participant’s trusted financial advisor to continue to manage assets as the participant desired.
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