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A Deeper Dive into the Build Back Better Act: New RMD Rules

Legislation

Editor’s Note: The House Ways and Means Committee recently approved funding provisions for the Build Back Better Act of 2021, including several retirement plan provisions (starting on page 665, and summarized here.)  

That part of the bill is aimed at limiting the ability of high-income individuals to defer or avoid excessive amounts of taxes through the use of retirement plans, although some of the provisions apply to a broader group of taxpayers. It generally limits high-income taxpayers from making IRA contributions, requires high-income taxpayers to disgorge excess amounts, and prohibits IRAs from utilizing certain investments that have the potential of generating astonishing rates of return, but that are not available to most investors. 

In this first part of a three-part series, ARA Retirement Education Counsel Robert Richter provides a deep dive into those provisions, starting with the RMD disgorgement changes.


One of the key provisions of the Build Back Better Act is the imposition of a new Required Minimum Distribution (RMD) for high-income taxpayers effective after Dec. 31, 2021. This new RMD applies to high-income taxpayers who have aggregate account balances in defined contribution plans (i.e., qualified plans, 403(a) and (b) arrangements, governmental 457(b) plans and IRAs), over $10 million (as adjusted for cost-of-living increases (COLAs). 

This RMD, which some refer to as disgorgement, is not based on the individual’s age and thus applies even to those who are younger than 70½ or 72.

Who is a “high-income taxpayer”?

A high-income taxpayer (the term “applicable taxpayer” is used in the bill) is one whose adjusted taxable income for a taxable year exceeds $400,000 for individual filers, $425,000 for a head of household, and $450,000 for married individuals who file a joint return or who are a surviving spouse. The $50,000 difference between individual filers and joint filers seems inequitable, yet these amounts are used throughout much of the Bill, not just the retirement provisions. Adjusted taxable income is determined without regard to the new RMD.

What account balances are used to determine the $10 million threshold? 

Account balances include all defined contribution type retirement accounts, whether as a participant, owner or beneficiary. This includes qualified plans, IRAs, 403(b) arrangements, and governmental 457(b) plans. Few individuals will reach this threshold, and for those who do, it would likely be due to astronomical investment returns, inheritances or rollovers from defined benefit plans. Investment returns is a key concern of some members of Congress, which is why the bill would limit IRAs from investing in certain investments that may have resulted in large account balances. 

What is the amount of the new RMD?

The amount of the new RMD is generally 50% of the value of the defined contribution accounts in excess of $10 million (as adjusted for cost-of-living increases). Of course, it’s not that simple. There is a special rule that applies when the value of the accounts exceeds $20 million. In that case, the RMD is 100% of any Roth contributions that exceed the $20 million threshold. 

The exact formula for determining the RMD is the excess of: 

  1. The sum of any “Roth excess amount” plus 50% of the excess of the accounts over $10 million less any “Roth excess amount,” over 
  2. The otherwise applicable RMD (e.g., the RMD at age 70½ or 72).

The “Roth excess amount,” as stated earlier, only applies to individuals who have accounts as of the end of the prior year that exceed $20 million (200% of the COLA adjusted $10 million limit for the beginning of the taxable year). The amount of the “Roth excess amount” is the portion, if any, of total Roth amounts in Roth IRAs and designated Roth accounts that exceeds $20M (as adjusted for COLAs). 

Example 1

A participant’s accounts are $20,500,000. Since this is over $20 million, the Roth excess rule applies. The excess amount is $500,000. If the participant has $500,000 of Roth amounts, then the new RMD would be $500,000 of Roth plus $5 million (50% of the amount in the accounts that exceed $10 million less the Roth distribution). This would then be reduced by the amount of any regular RMDs. If the individual’s Roth amounts are less than $500,000, then those must be distributed (if any), plus 50% of the excess over $10 million (less the Roth excess and any regular RMD). 

Example 2

A participant’s accounts total $10,500,000. This does not exceed the $20 million threshold. Therefore, there is no Roth excess amount and the amount of the new RMD is $250,000 (50% of the excess over $10M). 

The Treasury is permitted to issue regulations permitting a transition rule so that any new RMD for 2022 can be distributed over a set period of years, although this may  be of little consolation to affected taxpayers. 

What plans or accounts must be withdrawn to satisfy the RMD?

For purposes of making the new RMD, all qualified retirement plans and deferred compensation plans are treated as one plan. This is similar to the rule that currently applies for determining and distributing regular RMDs from IRAs (and which does not apply to qualified plans). This allows the individual to designate which plans or IRAs will be used to satisfy the new RMD, with two exceptions. First, if there are any “Roth excess amounts,” then those must be first be withdrawn from Roth IRAs before any other plans. Second, if any portion of the accounts are in non-publicly traded employer securities in an ESOP, then that portion is the last amount that must be distributed. 

Tax treatment of the distributions

Similar to regular RMDs, the new RMD cannot be rolled over and is not subject to the 10% additional tax for early distributions. Unlike regular RMDs which are subject to voluntary 10% federal income withholding, this new RMD is subject to mandatory 35% withholding on amounts that are includible in income. 

A major concern for those affeccted by the new RMD is that the bill does not modify the definition of a “qualified distribution” for purposes of a Roth distribution. The earnings on qualified Roth distributions are generally only non-taxable if the account has been in existence for at least 5 years and the individual has satisfied certain conditions, the most common being attainment of age 59½. If these conditions have not been met, then the earnings on a Roth distribution would be taxable (but would not subject to the 10% additional tax for an early distribution). 

For example, Peter Theil, a co-founder of PayPal, would reportedly need to withdraw close to $5 billion from his Roth IRA. Yes, you read that amount correctly—and it’s easy to understand why many of the provisions of this bill have congressional support. Since Peter is under age 59½, the earnings would be subject to federal income taxation. I wish I had this problem.  

Would plans need to be amended?

Qualified plans, 403(b) plans, and governmental 457(b) would need to be amended to permit a participant to certify that an RMD must be made and to elect to receive a distribution from the plan. For 403(b) annuity contracts, however, the requirement to permit a distribution only applies to elective deferrals. Plans or contracts would not need to be amended to include this provision before the last day of the 2023 plan year (or an additional 2 years for governmental and collectively bargained plans), provided they comply in operation prior to the amendment deadline (which could be extended by the Treasury and IRS).   

Next up: IRA contribution and investments.