New Final IRS Regs Affect Where Annuities Fit in RMDs

The Internal Revenue Service and its parent, the Treasury Department, have posted final regulations that will affect how clients include individual retirement annuities when calculating required minimum distributions, or RMDs, after retirement.

Other provisions in the new final regulations will affect how the tax rules work for certain deferred income annuity contracts, or qualified longevity annuity contracts.

The IRS and the Treasury Department also posted new draft regulations that will affect issues such as what happens to the RMDs when a taxpayer who puts cash in a QLAC gets divorced.

Other regulation provisions cover IRAs inherited by recipients other than spouses and may affect life insurance-based estate and trust planning arrangements.

The IRS developed the new final and draft regulations to implement provisions in the Setting Every Community Up for Retirement Enhancement (Secure) Act and the Secure 2.0 Act.

What it means: The new final rule and draft regulations are long and dense, and financial professionals will have to look carefully for what their tax advisors and professional groups are saying about the new and draft regulations for years.

RMD background: The Internal Revenue Service sees the tax incentives clients get for saving for retirement as a "revenue expenditure," or loss of tax revenue the federal government otherwise would have collected.

The federal income tax incentives tied to individual retirement accounts will cost the government about $25 billion in revenue this year and about $362 billion in revenue over 10 years, according to Treasury estimates.

To recover some of the tax revenue lost, the government requires holders of retirement accounts with distributions subject to income taxes — or traditional, non-Roth retirement accounts and non-Roth retirement account annuities — to begin taking a minimum amount of cash out, and include the withdrawals in taxable income, starting at age 73.

The new regulations: The new final and draft regulations are set to appear in a preliminary, online version of the Federal Register Friday.

The new final regulations take effect Sept. 17.

The individual retirement annuity rules: An individual retirement annuity is an account that benefits from federal retirement income account tax breaks and invests in individual fixed or variable annuities.

One provision states that, for purposes of computing RMDs, a client can combine the annuity contract value with the "account balances under those IRAs as if the account balances were the remaining account balances following the purchase of the annuity contract with a portion of those account balances."

Elsewhere, the IRS notes that an IRA owner who "borrows any money under an individual retirement account annuity" cannot count that amount toward the RMD total.

QLACs: A qualifed longevity annuity contract is an agreement that requires an insurer to begin paying the holder a set amount of benefits for life after the holder reaches a specified age late in life, such as age 85.

QLAC holders can get cash out without paying income taxes on the benefits.

To minimize the amount of income tax revenue lost, Congress has imposed tight restrictions on QLACs but loosened the rules in the Secure 2.0 Act. The limit on QLAC premiums increased to $200,000, from $125,000. Secure 2.0 also includes rules for how QLACs work when the owners get divorced.

The final regulations show advisors and clients how to make use of the increase. One provision lets clients use the increase by adding cash to an existing QLAC, without exchanging the old contract for a new contract.

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