Case Study: Lots of Unsatisfactory Options

If an IRA owner or plan participant dies before fully satisfying an RMD for the year, the beneficiaries are responsible for distributing that portion of the RMD not yet taken. But sometimes, beneficiaries don’t make it easy. Consider the scenario of three sisters – Alice, Blanche and Claire – who are equal beneficiaries of their mother’s only IRA. Mom died in 2021 without taking any part of her 2021 $15,000 RMD.

Alice and Blanche have provided all necessary documentation, including the death certificate and their own information, to take their respective portions of the RMD ($5,000 each).

Claire has been trekking in the Himalayas for the past several months. She left no contact information and has not provided a power of attorney authorization in her absence. This does not surprise Alice and Blanche, who refer to their sister as “Carefree Claire.”

As 2021 draws to a close, Alice and Blanche have taken $5,000 RMDs from their inherited IRAs. They know that Claire will be stuck with a 50% penalty tax – $2,500 – if her $5,000 RMD is not removed by year-end, so they ask your advice.

First, let’s be clear: Claire should take her $5,000 RMD. The IRS’ position is that the decedent could have taken the RMD before death; after death, the individual beneficiaries are responsible for distributing their proportionate shares based on their beneficial interest. But in this case study, Claire has made the proper response impracticable. So it may be helpful to consider several possible responses and why they are not suitable options.

• Pay the remaining RMD to the decedent.
  This may seem like an easy solution. After all, you may already have a savings or checking account associated with the deceased client. So it would be easy to transfer the RMD into such an account. But once the client dies, the beneficiaries have an unfettered right to the IRA assets. What’s more, the IRS has made clear, in a variety of contexts, that payments to clients after their death is not appropriate. So even if, for example, the beneficiaries would receive the assets through the decedent’s estate anyway, paying assets to a dead client is not recommended.
  
  
• Pay the remaining RMD to the other beneficiaries.
  While there’s no official support for this option, this approach at least has a pretty solid foundation in common sense. After all, the rationale is that the entire RMD gets distributed, so the IRS obtains revenue on the entire taxable portion. But the IRS has not endorsed this method of satisfying the year-of-death RMD. The best thing that may happen from taking this action is that the nonresponsive party failing to take the RMD could argue there was a good faith attempt to satisfy the total RMD. And although it might be a good effort, ultimately, it should not be relied on to fulfill the IRS’ rule that all beneficiaries must satisfy their respective portions of the total RMD amount.
  
  
• Pay the remaining RMD to the missing beneficiary.
  This approach also appeals to common sense. If the only proper way to satisfy the RMD is to pay each beneficiary, then why not do just that? The concern here is making a distribution without proper authorization. While it may be unlikely that the recipient will object to a financial organization trying to help a client avoid a substantial penalty, there are other practical concerns. For instance, unless the nonresponsive beneficiary already has an account with your organization, how can you properly establish an account? (Think “know your customer” and “customer identification programs.”) And simply cutting a check and sending it to the last known address may merely kick the can down the road when the check ends up uncashed.
  
  
• Do nothing and wait for the beneficiary to surface.
  Sometimes the safest approach is to leave the responsibility with the person who is entitled to the RMD. Unless your IRA document gives you the authority to pay an RMD to a beneficiary without a specific distribution request, it may make good sense to take no action. Let’s assume that you’ve made reasonable efforts to locate unresponsive or missing beneficiaries. It seems that such beneficiaries would be hard-pressed to object to your not taking extraordinary measures to fix a problem that they may have created. And if they were unavailable and thus unaware of their need to take an RMD, they then may have a reasonable-cause explanation to the IRS – one that could help them avoid the 50% penalty.