IRS Issues Retirement Planning Reminder: Required Minimum Distributions

This week the Internal Revenue Service (IRS) issued Information Release 2016-48 (IR 2016-48) as a notice to retirees who turned 70½ years old during 2015.  IR 2016-48 reminds taxpayers who reached 70½ years old during 2015 that, in most instances, they must begin drawing Required Minimum Distributions (RMDs) from their Individual Retirement Accounts (IRAs) and employer retirement plans (such as: 401(k), 403(b), and 457(b) plans) by Friday, April 1, 2016. This April 1 deadline applies to retirees who hold traditional (SEP and SIMPLE) IRAs (but not Roth IRAs), and normally to employer retirement plan participants.

Notably, the April 1 deadline is only applicable to the RMD for the first year after a taxpayer attains age 70½; for years following, the taxpayer must draw the RMD from his or her retirement account by December 31. For example, a taxpayer who turned 70½ in 2015 (born after June 30, 1944 and before July 1, 1945) must draw the first RMD by April 1, 2016, but must also draw another RMD by December 31, 2016. Further, IR 2016-48 provides additional detail about how to calculate the RMD, utilizing the retiree’s life expectancy and retirement account balance as of a certain date. Finally, IR 2016-48 notes other considerations relating to retirees with certain facts or circumstances. For instance, generally employees who have reached age 70½ but continue to work can wait until April 1 of the year after their retirement to begin drawing the RMD.

Biz&TaxHax Tip

As noted in IR 203016-48, now is a good time for retirees to think about their retirement plan. For federal tax purposes, retirees may have received Form 5498 IRA Contribution Information. Box 12b of the Form 5498 should contain the RMD amount that the retiree must draw by the applicable deadline to meet federal requirements. Additionally, as always, retirees should consider state and local tax implications related to their retirement plan distributions. For example, retirees who move from one state to another will want to consider whether their retirement income is taxable in the state where they formerly lived as well as the state to which they moved. In particular, former Ohioans who retire outside of Ohio should read our prior article titled Are Nonresident Pension/Retirement Benefits Taxable in Ohio?, which also summarizes an interesting case related to local taxation of nonresident retirement income.

It is important for Ohio retirees, including former Ohioans who have retired (or those considering retiring) outside Ohio to consult an experienced Ohio tax attorney or consultant to ensure proper tax planning based on their specific facts and circumstances. An Ohio tax lawyer or Ohio tax consultant can assist you in: determining taxability of particular items of income (such as retirement or pension benefits) for federal, state, and local tax purposes;  evaluating your specific facts and circumstances to support proper state domicile under common law; and gathering documentation to support the appropriate tax results.

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Are Nonresident Pension/Retirement Benefits Taxable in Ohio?

As noted in our prior article regarding Disclaiming Ohio Tax Domicile for Income Tax Purposes, former Ohio residents who move outside Ohio for retirement or otherwise often seek to maintain some contact with Ohio – perhaps retaining a home or business here. But, what happens when retirees leave Ohio to settle elsewhere for their golden years, yet continue to receive a pension or retirement income from their prior work in Ohio? Generally, the answer is that nonresident retirement benefits are not taxable for Ohio income tax purposes, so long as they qualify as a covered type of “retirement income.” This article will provide a brief overview of this exclusion for Ohio state income tax purposes, while also noting some potential risk with respect to Ohio local income tax relating to nonresident pension benefits.

Nonresident Retirement Benefits Excluded from Ohio Income Taxation

Federal law prohibits a State (including any political subdivision of a State) from imposing an income tax on any retirement income of an individual who is not a resident or domiciliary of that State (as determined under the laws of that State). 4 U.S.C. Sec. 114(a), (b)(3). For purposes of the federal prohibition, “retirement income” is defined at 4 U.S.C. Sec. 114(b)(1)(A) through (I). Instructively, in 1996 the Ohio Department of Taxation (ODT) issued Information Release No. 3/11/1996 (later revised and superseded in May 2007) (the Information Releases) in response to the above-noted federal prohibition.

The Information Releases provide fairly detailed guidance as to the circumstances under which a nonresident retiree’s retirement benefits may become subject to Ohio tax/tax withholding despite the federal prohibition. The circumstances are limited, but as always it is best to consult your tax attorney or consultant to fully review your facts and circumstances along with applicable guidance to determine taxability of any income.

Ohio Localities Taxing Nonresident Retirement Benefits

The Ohio Board of Tax Appeals (OBTA) in Nationwide Mut. Ins. Co. et. al. v. City of Columbus Board of Tax Appeals et. al., Ohio BTA No. 2010-1590, May 12, 12015, 2015 WL 2338054 (Nationwide) considered a taxpayer challenge to a municipal income tax on retirement benefits of a nonresident. As noted, this differs from the initial question presented in that it was a challenge to Ohio municipal income tax as opposed to Ohio state income tax, but it is worth reviewing as it indicates a different result for local income taxability of nonresident retirement income.

Interestingly, the OBTA upheld the City of Columbus Municipal Board of Tax Appeals’ (MBTA) decision finding that the employers were required to withhold municipal income tax on the nonresidents’ retirement benefits. Among other arguments, the taxpayers contended that:

  1. The Columbus income tax ordinance required withholding by employers from employees’ income only, such that once the employment relationship terminated, no further withholding could be required. The OBTA rejected this argument as too restrictive a reading of the ordinance.
  1. The Columbus income tax ordinance did not tax pension income. The OBTA recognized that the income/benefits from the retirement plan at issue constitute a pension benefit, but rejected the taxpayers’ argument stating “we find no support in the city ordinances for [the taxpayers’] claim that the city does not tax pensions . . . .” The taxpayers had cited the Columbus income tax instructions in support of this claim, but the OBTA noted it found no similar reference in the Columbus ordinances.
  1. Federal law (4 U.S.C. Sec. 114) prohibited the city from taxing the nonresidents’ retirement benefits and the MBTA’s decision otherwise was error. In reviewing this argument, the OBTA stated that this federal prohibition relates to imposition of tax based upon a state’s statutory scheme. Thus, the OBTA stated that because there is no Ohio state law preventing the municipalities from imposing tax on nonresident retirement income, the OBTA did not need to address the federal prohibition.

Summary & Biz&TaxHax Tip:

The OBTA’s decision in Nationwide appears to be an incorrect analysis of the federal law prohibiting State taxation of nonresident retirement income, and which clearly includes “political subdivisions of a State” (such as cities, townships, villages) in the prohibition. All of this discussion aside, Nationwide doesn’t affect the federal prohibition as it relates to Ohio income tax on nonresident retirement income. It is important for former Ohioans (or those considering retiring outside Ohio) to consult an experienced Ohio tax attorney or consultant to ensure proper tax domicile review and planning based on their specific facts and circumstances. An Ohio tax lawyer or Ohio tax consultant can assist you in: determining taxability of particular items of income (such as retirement or pension benefits), evaluating your specific facts and circumstances to support non-Ohio domicile under common law, and filing the Affidavit to obtain the appropriate tax results.