Capping a months-long process of negotiations among Democrats, the House approved an amended version of the roughly $1.7 trillion Build Back Better Act (H.R. 5376) Nov. 19 on a near party-line vote of 220-213, with one Democrat voting no.
The bill includes limits on “mega” Roths and in-plan Roth conversions.
The legislation will now go to the Senate, where it’s possible the bill will undergo additional changes. For instance, Sens. Kyrsten Sinema (D-AZ), Joe Manchin (D-WV) or other Senate Democrats may demand additional changes to secure their vote. In addition, there still seems to be an issue with some members over a provision to expand the state and local tax deduction.
With a 50-50 split between the parties, the Democrats cannot lose any votes in the Senate. If changes are made in the Senate, the House would have to approve that amended version before the legislation could be delivered to President Biden for his signature. And with the Thanksgiving break looming, final action on this legislation likely will not come until the end of the year.
Mega Roth, RMD Requirements and Back-Door Closure
As previously reported, House lawmakers resurrected certain retirement plan changes, characterized as limitations on high-income taxpayers with large retirement account balances. Appearing under subtitle H, “Responsibly Funding Our Priorities,” the retirement provisions—which notionally are being used to help offset the cost of the bill—are estimated by the Congressional Budget Office and the Joint Committee on Taxation to raise approximately $10 billion over the period 2022-2031.
The lawmakers, however, did not restore the provisions approved by the House Ways and Means Committee in September and supported by the American Retirement Association that would have significantly closed the retirement savings coverage gap, creating more than 63 million new retirement savers and adding up to $7.3 trillion in additional retirement savings over a 10-year period.
Additionally, the latest version of H.R. 5376 as approved by the House does not include previous provisions:
- prohibiting investment of IRA assets in entities in which the owner has a substantial interest; and
- prohibiting an IRA from holding any security if the issuer of the security requires the IRA owner to have certain minimum level of assets or income, or have completed a minimum level of education or obtained a specific license or credential.
The retirement-related changes within the bill’s funding section include the following.
Contribution Limit for Individual Retirement Plans of High-Income Taxpayers with Large Account Balances (Section 138301). To avoid subsidizing retirement savings once account balances reach very high levels, the legislation creates new rules for taxpayers with very large IRA and DC retirement account balances.
Specifically, the legislation prohibits further contributions to a Roth or traditional IRA for a taxable year if the contributions would cause the total value of an individual’s IRA and DC accounts as of the end of the prior taxable year to exceed or further exceed $10 million. The limit on contributions would only apply to single taxpayers (or married filing separately) with income over $400,000; married taxpayers filing jointly with income over $450,000; and heads of households with income over $425,000 (indexed for inflation).
The legislation also adds a new annual reporting requirement for DC plans on aggregate account balances of at least $2.5 million. The reporting would be to both the IRS and the plan participant. These provisions would be effective for tax years beginning after Dec. 31, 2028. Note that this provision as approved in September had a Dec. 31, 2021, effective date.
RMDs for High-Income Taxpayers with Large Retirement Account Balances (Section 138302). Under this provision, if an individual’s combined traditional IRA, Roth IRA and DC account balances generally exceed $10 million at the end of a tax year, a minimum distribution would be required for the following year.
This minimum distribution would be required only if the taxpayer’s income is above the thresholds described in Section 138301 above (e.g., $450,000 for a joint return). The minimum distribution generally is 50% of the amount by which the individual’s prior year aggregate account balance exceeds the $10 million limit, reduced by the amount described in the next paragraph.
To the extent the combined aggregate balance exceeds $20 million, that excess is required to be distributed from Roth IRAs and Roth designated accounts in DC plans up to the lesser of:
- the amount needed to bring the total balance in all accounts down to $20 million; or
- the aggregate balance in the Roth IRAs and designated Roth accounts in DC plans.
Once the individual distributes the amount of any excess required under this 100% distribution rule, then the individual is allowed to determine the accounts from which to distribute to satisfy the 50% distribution rule above, except that generally no amounts may be allocated to stock in a private company ESOP.
These changes would be effective for tax years beginning after Dec. 31, 2028. Note that this provision as approved in September also had a Dec. 31, 2021, effective date.
Tax Treatment of Rollovers to Roth IRAs and Accounts (Section 138311). To close the “back-door” Roth IRA strategy and a similar one for retirement plans, this provision prohibits all employee after-tax contributions in qualified plans and after-tax IRA contributions from being converted to Roth regardless of income level, effective for distributions, transfers and contributions made after Dec. 31, 2021.
The bill also eliminates Roth conversions for both IRAs and employer-sponsored plans for single taxpayers (or married filing separately) with taxable income over $400,000, married taxpayers filing jointly with taxable income over $450,000, and heads of households with taxable income over $425,000 (all indexed for inflation). This provision applies to distributions, transfers and contributions made in taxable years beginning after Dec. 31, 2031.
Statute of Limitations with Respect to IRA Noncompliance (Section 138312). The statute of limitations for IRA noncompliance related to valuation-related misreporting and prohibited transactions would be expanded from three years to six years. This provision applies to taxes to which the current three-year period ends after Dec. 31, 2021.
IRA Owners Treated as Disqualified Persons for Purposes of Prohibited Transactions Rules (Section 138313). For purposes of applying the prohibited transaction rules with respect to an IRA, the bill clarifies that the IRA owner (including an individual who inherits an IRA as a beneficiary after the IRA owner’s death) is always a disqualified person. This provision applies to transactions occurring after Dec. 31, 2021.
Other Provisions
Beyond the retirement changes, the legislation includes a package of corporate and international reforms, IRS compliance changes, and additional tax increases for high-income individuals (though not as extensive compared to what was first proposed).
Modifications to Limitation on Deduction of Excessive Employee Remuneration (Section 138501). This provision adds to the general rule under Code Section 162(m)(1), an aggregation rule requiring two or more persons who are treated as a single employer under Code Section 414 to be treated as a single employer. For purposes of this determination, the brother-sister controlled group and combined group rules under Code Section 1563(a) are disregarded. The provision also expands the IRS’ regulatory authority under the general rule and expands the definition of applicable employee remuneration to clarify that such remuneration includes performance-based compensation, commissions, post-termination compensation and beneficiary payments, whether or not paid directly by the publicly held corporation.
Prohibited Transactions Relating to Holding DISC or FSC in Individual Retirement Account (Section 138503).This provision provides that holding an interest in a DISC or FSC that receives any commission or other payment from an entity owned by the individual for whose benefit the IRA is established is a prohibited transaction for purposes of Code Section 4975. The provision also applies if the DISC or FSC is held indirectly through one or more corporations. For purposes of determining ownership of the entity that makes the payments, the constructive ownership rules in Section 318 apply, substituting 10% for 25%. The tax imposed by Section 4975 applies even if the account ceases to be treated as an IRA. The section applies to stock acquired or held on or after Dec. 31, 2021.
Additional provisions include:
- application of net investment income tax to trade or business income of certain high-income individuals (Section 138201); and
- a surcharge on high-income individuals, estates and trusts with an initial surtax on AGI of 5% in excess of $10 million and an additional surtax of 3% on AGI in excess of $25 million (Section 138203).
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