Multiple IRA beneficiaries' calculations of minimum distributions when IRA owner died before RBD.

The Service has held, in Letter Rulings 9931048 and 9931049, that multiple beneficiaries of a single individual retirement account (IRA) may use their own individual life expectancies to calculate their required minimum distributions instead of using the oldest beneficiary's life expectancy, when the IRA owner died before his minimum required beginning date (RBD).

Example: A established an IRA and designated B, her husband, as the primary beneficial. A, whose RBD was April 1, 1997, died on Feb. 16, 1997. B's date of birth was May 6,1904. On June 9,1997, B transferred his wife's IRA assets to eight other IRAs in his name. He invested the IRAs' assets in eight different mutual funds and selected six primary and equal beneficiaries (including C), B's beneficiary designation form stated that each beneficiary would be entitled to a one-sixth interest in each of the eight IRAs. B's RBD was Dec. 31, 1998. (Even though B was 93 at the time of the transfer, he was entitled to a new RBD of the last day of the calendar year following the transfer year.)

B died on March 19,1998. He was survived by C and the other five beneficiaries. B had not received any distributions from the eight IRAs before his death. Prior to Dec. 31,1998, C and the other five beneficiaries directed the custodian (by letter) of seven of the eight IRAs to divide each of the seven into six separate accounts, using a direct transfer. Seven of the eight IRA mutual fund accounts were divided. The eighth mutual fund IRA account, totaling $3,761.40, was distributed in equal amounts of $626.90 to each of the six beneficiaries. For the separate accounts, there was an allocation of gains and losses and a separate accounting for each beneficiary's interest since the date of B's death.

Sec. 401(a)(9)(B) (ii) and (iii) sets forth the five-year rule and its exception for distributing the interest of any employee who dies before distributions have begun in accordance with Sec. 401(a)(9)(A)(ii). Sec. 401(a)(9)(B)(iii) provides that, if any portion of an employee's interest is payable to (or for the benefit of) a designated beneficiary, that portion will be distributed (in accordance with regulations) over the life of that designated beneficiary (or over a period not extending beyond his life expectancy) and these distributions are to begin not later than one year after the employee's death date (or such later date as the Secretary may by regulations prescribe). For purposes of Sec. 401(a)(9)(A)(ii), the portion referred to above shall be treated as distributed on the date on which such distributions begin.

For a nonspouse beneficiary, Prop. Kegs. Sec. 1.401(a)(9)-1, Q&A C-3(a), provides that, to satisfy the Sec. 401(a) (B) (iii) rule (the exception to the five-year rule for nonspouse beneficiaries), distributions must commence by December 31 of the calendar year immediately following the calendar year in which the employee died. Prop. Kegs. Sec. 1.401(a)(9)-1, Q&A C4(c), provides that nonspouse beneficiaries may elect on an individual basis whether the five-year rule in Sec. 401(a)(9)(B)(ii) or the exception in Sec. 401(a)(9)(B)(iii) applies to distributions; such election by a nonspouse beneficiary must be made no later than December 31 of the calendar year following the IRA owner's death. A nonspouse beneficiary is deemed to elect the exception to the five-year rule if he begins taking distributions over his life expectancy beginning not later than December 31 of the calendar year immediately following the year in which the employee died.

Prop. Kegs. Sec. 1.401(a)(9)-1, Q&A H-2(b), states that if, as of an employee's RBD, or (in the case of distributions under Sec. 401(a)(9)(B)(iii) as of the employee's date of death, the beneficiaries of a separate account differ from the beneficiaries of another separate account (or segregated share), an account need not be aggregated with other separate accounts (or segregated shares) to determine whether the distributions from that separate account (or segregated share) satisfy Sec. 401(a)(9). Instead, the rules in Sec. 401(a)(9) may separately apply to that separate account (or segregated share).

The IRS first determined that the mere segregation into subaccounts of the interest of multiple beneficiaries by an IRA trustee/custodian, at the beneficiaries' request, does not affect the character or qualifications of the trustee or of B's IRAs. In addition, it noted that segregating multiple interests in an IRA does not render a beneficiary's interest in that IRA forfeitable or, in and of itself, subject the beneficiaries to any tax consequences. As a result, the Service ruled that the creation of six separate accounts from B's IRA for the benefit of C and the other five beneficiaries will not result in C having to pay income tax or excise tax penalties for the amount transferred under Sec. 408(a) and (d).

The IRS also ruled that, in accordance with Prop. Kegs. Sec.

1.401(a)(9)-1, Q&A H-2(b), the beneficiaries separate accounts need not be aggregated with other separate accounts (or segregated shares) to determine whether the distributions from that separate account (or segregated share) satisfy the Sec. 401(a)(9) minimum distribution rules. As a result, the beneficiaries could each elect to receive their share of the IRAs over their individual life expectancies without reference to the oldest beneficiary's life expectancy, and could receive a payout under the life expectancy method, as long as the-IRAs are maintained in the name of the deceased IRA owner, B. The Service noted that each beneficiary must elect this exception to Sec. 401(a)(9)(B)(ii) and take the first payment before Dec. 31, 1999.

In Letter Rulings 9931048 and 9931049, both the decedent's death and the segregation of the decedent's IRA into separate subaccounts for each individual beneficiary occurred prior to the decedent's RBD. Therefore, the rulings do not apply to taxpayers who have already reached their minimum RBDs under Sec. 401(a)(9)(C) (i.e., generally, April 1 of the year following the calendar year in which the client attains age 70 1/2 or, in the case of a qualified plan, the year in which the client retires from the sponsoring employer). If a taxpayer has named multiple beneficiaries for a single account as of his RBD, the beneficiaries would be required to continue distributions over the oldest beneficiary's life expectancy. To avoid this result (which could trigger accelerated distributions and taxation, especially when the beneficiaries dramatically differ in age), taxpayers should segregate their IRA or qualified plan balances and name a separate beneficiary for each segregated account. This would allow the beneficiary to continue distributions over his own life expectancy after the taxpayer's death.

FROM MARTIN NISSENBAUM, NEW YORK, NY