Q: Early last year I took my 2020 required minimum distribution (RMD) from my IRA, but later in the year the tax law waived RMDs, so I returned the funds. By doing this, I thought this was all taken care of, meaning that I thought I was “zeroed” out with no tax due.
But now it’s tax time, and I have two issues I’d like help on.
- First, I received a 1099-R form for the distribution showing it as taxable, even though I returned the unwanted 2020 RMD. What do I do?
- The second issue makes this a bit more complicated. When I took my 2020 RMD I had tax withheld (like I usually do to cover the taxes on my RMDs), so I only received a “net” distribution and that is the amount I returned. Do I now have a tax problem? If so, can it be fixed now in 2021?
First, you are not alone. This is the top RMD tax question we are receiving, even from accountants preparing tax returns. Folks just like you are preparing your 2020 taxes based on the 1099 forms you received. Remember that the IRS also received a copy of that 1099 form, so you will have to match those amounts on your tax return and explain any differences between what the 1099-R shows as taxable income and what is actually taxable income — which could, in fact, be nothing. But your tax return must tell that story to avoid IRS problems.
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To recap what happened last year, the CARES Act waived 2020 required minimum distributions (RMDs), but some people, like you, took them before they knew that. In Notice 2020-51, the IRS allowed IRA owners who had already taken their RMDs to repay those funds.
People in your situation probably thought that once you returned the unwanted RMD, it “zeroed out” the income, as you said in your question, and that removed the tax bill on that distribution. Unfortunately, as you found out, the 1099-R tax reporting doesn’t work that way.
Form 1099-R still shows the RMD as a taxable distribution, since it only shows the distribution and not the return of those funds. This might look erroneous, but it makes sense. A rollover (a return of the unwanted RMD) starts with a distribution to the IRA owner — you. What the IRA owner does with those dollars is unknown. Upon distribution, the custodian has no idea if a rollover (a return of the unwanted RMD) will even happen at all.
It’s up to you or your tax preparer to show the returned RMD on your tax return, negating the taxable distribution.
You will need to indicate a rollover on your tax return (that’s what returning an unwanted RMD is), and that is relatively easy. The total distribution from the IRA must be indicated on line 4a of Form 1040 when preparing your federal income tax return.
Then, enter “rollover” next to line 4b. You should not have to actually write in “rollover.” There will be a computer input for this option on your tax software; probably a checkbox that will automatically write in “rollover” and show the taxable amount as zero. If the total distribution (the unwanted RMD) was rolled back over, then show that and the program will enter -0- on line 4b.
Otherwise, enter the portion not rolled over on line 4b, and that will be taxable. This is essentially the same reporting that would be done for any IRA rollover, for example when you move IRA funds to another financial institution. Returning an unwanted RMD is treated the same as any IRA rollover.
Note that in a few months the financial institution will furnish you and the IRS with Form 5498, which will officially confirm the rollover amount. It is not necessary to file Form 5498 with your tax return.
An RMD can never be rolled back over, but since RMDs were waived in 2020, the RMD taken was not really an RMD, so it could be rolled over. But other than that one-time anomaly, you cannot roll over an RMD.
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Now to your second question, which could be a problem:
You said you had tax withheld on the RMD you took, so let’s put some numbers on here so you can see how this works. Let’s say your 2020 RMD was $10,000 and you withheld $2,000 for taxes. That means you received only $8,000 of your RMD after taxes. Then, you said that you rolled back over only the net amount you received, meaning the $8,000 in this example.
Unfortunately, this means the $2,000 withheld for taxes that was not rolled back over (returned to your IRA) will be taxable since these funds did not go back to your IRA. You can no longer return these funds and they will be taxable for your 2020 tax return.
However, you still will receive credit for the $2,000 of tax you had withheld, which you’ll claim on your tax return. That withholding will be more than enough to cover the $2,000 taxable distribution and will be credited towards any other income tax you might owe on other 2020 income. This, in turn, could increase your tax refund or reduce any amount you would otherwise owe for 2020. And this may work out better tax-wise since the 2020 tax rates are still relatively low and may turn out to be much lower than future tax rates, so all is good. Not to worry.
Remember, too, that RMDs resume for this year.
Ed Slott, CPA, is a nationally recognized IRA expert, public television personality, author and media resource who has dedicated his life to educating millions of Americans (and their financial professionals) on protecting retirement accounts from unnecessary taxes. Visit www.IRAHelp.com to learn more.