ESOPs and other qualified retirement plans require that plan participants begin taking a distribution of their retirement plan benefits after they reach a certain age. This distribution, also known as an IRS Required Minimum Distribution (RMD), is required for plan participants annually starting with the year that the participant reaches 70 ½, or if later, the year in which the participant retires. [If the account is an IRA or the account owner is a 5% owner sponsoring the plan, the RMD must begin upon attainment of 70 ½ .]
It is important for the Plan Administrator to make sure that all 2015 RMDs are paid out by the end of the calendar year.
Required Minimum Distributions
IRC Section 401(a)(9) provides statutory guidance on RMDs. An IRS Required Minimum Distribution Information Page defines RMDs and answers some frequently asked questions:
Required Minimum Distributions (RMDs) generally are minimum amounts that a retirement plan account owner must withdraw annually starting with the year that he or she reaches 70 ½ years of age or, if later, the year in which he or she retires. However, if the retirement plan account is an IRA or the account owner is a 5% owner of the business sponsoring the retirement plan, the RMDs must begin once the account holder is age 70 ½, regardless of whether he or she is retired.
Retirement plan participants and IRA owners, including owners of SEP IRAs and SIMPLE IRAs, are responsible for taking the correct amount of RMDs on time every year from their accounts, and they face stiff penalties for failure to take RMDs.
When a retirement plan account owner or IRA owner dies before RMDs have begun, different RMD rules apply to the beneficiary of the account or IRA. Generally, the entire amount of the owner’s benefit must be distributed to the beneficiary who is an individual either (1) within 5 years of the owner’s death, or (2) over the life of the beneficiary starting no later than one year following the owner’s death. See Publication 590-B, Distributions from Individual Retirement Arrangements (IRAs), for complete details on when beneficiaries must start receiving RMDs.
Required Beginning Date
Generally, all participants must receive their first RMD by the April 1 of the year following the year they meet both of the following requirements: attain age 70 ½ and terminate employment. This date is referred to as the participant's required beginning date.
Each subsequent RMD is due on December 31. Another way to look at it is that the initial RMD is given an additional 3-month grace period.
Let's look at an example of a participant that attained age 70 ½ and terminated service with the company in 2015:
- Required Beginning Date– Since the participant met both requirements in 2015, the required beginning date is April 1, 2016.
- RMD #1- The participant must receive their first RMD by April 1, 2016. This RMD is the participant's 2015 RMD and is calculated using the participant’s 2014 account balance.
- RMD #2- The participant must receive their second RMD by December 31, 2016. This RMD is the participant's 2016 RMD and is calculated using the participant’s 2015 account balance.
- Each subsequent RMD- Each subsequent RMD will be due on each subsequent December 31 (calculated using the prior year's balance).
Some plans provide eligible participants with the option to take their first RMD in the year they satisfy both requirements. Using the example, the participant would take their first RMD in 2015.
Another option is for the participant to take both their first and second RMDs before April 1 of the year the RMDs are due. Using the example, the first two RMDs would be taken in 2016 by April 1, 2016.
Ultimately, the terms of the plan document and distribution policy will govern the RMD distribution rules.
5% Owners Rule
5% of the owners of the business sponsoring the plan, must begin receiving RMDs by the required beginning date, even if they are still employed.
RMDs After Death of Participant
The normal RMD a participant would be scheduled, would apply in the year of the participant’s death. In subsequent years, after the death of the participant, the RMD will depend on the identity of the designated beneficiary.
Charitable Donation of RMDs (IRAs Only)
For eligible tax years, participants could exclude up to $100,000 from gross income for donations paid directly to a qualified charity from their IRA.
Key points about qualified charitable contributions (QCDs) include: The last day to make a QCD from an IRA was extended December 31, 2014 and The Protecting Americans from Tax Hikes Act of 2015 (the PATH Act) signed into law on December 18, 2015, permanently extending the exclusion.
RMD Worksheets
The IRS has two RMD worksheets that you may find useful:
- For IRA owners whose spouse is the sole beneficiary of their IRA and is more than 10 years younger
- For all other IRA owners
RMD Calculators
Here are two online RMD calculators you may find useful.
- RMD Planner - Annual Distribution Calculator– This calculator requires you to enter the date of birth, status of the designated beneficiary, the designated beneficiary's date of birth (if applicable), and the prior year-end balance.
- Calculate Your Minimum Required Distribution calculator– This is a basic calculator that only requires your age at the end of this year and the balance.
In previous years I have tested some of the calculators using the Uniform Lifetime Table and my calculation agreed with the online calculators. The IRS has provided links to the Joint Life and Last Survivor Table, Uniform Lifetime Table, and Single Life Expectancy Table.
ESOP RMDs
Another factor to consider for RMDs is that the plan may not have enough cash to pay to the participant(s) to satisfy the RMD requirements. Should this situation arise the plan will most likely have three options:
- Stock will be repurchased (recycled) in the plan to other participants - cash will need to be contributed to the plan.
- Stock will be sold and the proceeds used to pay the participants – a stock appraisal on the date of the sale will need to be obtained.
- Stock will be distributed and put back to the company (or the ESOP). It is important to note that as it gets closer to December 31, it becomes more likely that the stock value may be "stale" (see above discussion) and not an accurate reflection of the actual stock value.
A proper ESOP distribution policy can help avoid or manage a situation where the ESOP doesn’t have enough cash available to pay its required minimum distributions.
50% Excise Tax
If you do not comply with the RMD rules, you may have to pay a 50% excise tax on the amount not distributed as required. The excise tax is reported on IRS Form 5329 - Additional Taxes on Qualified Plans (Including IRAs) and Other Tax-Favored Accounts.
