While qualified plan participants are generally required to begin taking distributions April 1 of the year following the year the plan participant turns 70 ½, the “still-working” exception delays the RBD to April 1 of the year following the year the employee retires. The motivations behind the still-working exception are simple enough (Congress anticipated that some workers would continue working beyond age 70 ½ and did not want to force these participants to begin taking distributions), however the reality is that the provision itself is surprisingly complex, containing many layers of rules that influence one another and make the determination of whether an individual is “still-working” more difficult than many would expect.
In this guest post, Jeffrey Levine of BluePrint Wealth Alliance, and our Director of Advisor Education for Kitces.com, takes a deep dive into the still-working exception, examining how an individual is (or is not) determined to be “still-working”, as well as the planning strategies that arise from the exception, such as rolling qualified assets into a still-working exception eligible plan, divesting more than 5% ownership of a company prior to age 70 ½, creating a new business after age 70 ½, and even just making sure the requirements are met to qualify for the still-working exception!
To the surprise of many, defining precisely what it means to be “still working” (e.g., 1 hour per week, 10 hours, 20 hours?) is not something that the IRS has done. However, the general interpretation based on a plain reading of the law is that, as long as the employer still considers an individual employed, that person is “still employed” for the purpose of the still-working exception (even if the ongoing work is of a relatively limited nature). However, this determination is further complicated by the fact that an employee must be employed throughout the entire year to qualify for the exception and delay RMDs past their 70 ½ year, which is defined as not having retired at any point during the year, including December 31st! So, if an individual worked every day of the year (including a full work day on December 31st), but retired on December 31st (i.e., did not come back to work at any time in the next year), then the individual would be deemed retired in that year and would not be eligible for the still-working exception during that year.
Another complication with determining whether an individual is “still working” is the exclusion of the rule for 5% owners of a business. One point of confusion is that 5% owners are not considered “5% owners” for the sake of this rule. Instead, owners must own more than 5% in order to be considered a 5% owner. A second point of confusion is that ownership according to the 5% ownership rule includes indirect ownership of stock owned by a spouse, children, grandchildren, and parents (though not siblings, cousins, aunts/uncles, and nieces/nephews). Further, the still-working exception is based on a one-time test of ownership in the plan year ending in the year an employee turns 70 ½, which actually means that those who own an increasing amount of a company after reaching age 70 ½ can own more than 5% and be considered less than 5% owners (or may own less but still are considered more than 5% owners).
Fortunately, this complexity does create planning opportunities which individuals can use to reduce (or at least delay) their tax bill. In particular, individuals may want to consider rolling other qualified into still-working exception eligible plans (as only an account through an eligible employer receives an exception from taking a distribution), divesting more than 5% ownership prior to age 70 ½ (as the test is only applied at this age), creating a new business and adopting a qualified plan after age ½ (as the new business would not have been around when an individual reached age 70 ½), or just making sure that the requirements to receive the still-working exception are met (as despite the popularity of retiring on December 31st, it may be beneficial to work at least one day into a new year).
Ultimately, the key point is to acknowledge that the still-working exception is not as straight-forward as is often believed. There is a lot of complexity in the rules surrounding the still-working exception, yet, at the same time, a lot of opportunity for tax planning as well (at least for those who have the luxury of not needing their retirement funds at age 70 ½ and who can continue to defer spending into the future)!