By Brian Schiess, CFP®
As the most significant update to retirement legislation in over a decade, the SECURE Act contains certain changes to the rules surrounding Individual Retirement Accounts (IRAs) and 401(k) plans. With these changes come significant implications for retirement planning, tax planning, and estate planning strategies.
Here is a summary of the changes that are expected to have the largest impact on you and your financial plans.
1) Limitation On The Stretch IRA / Inherited IRA Provision
In the past, non-spouse beneficiaries could inherit an IRA, maintain the account as an Inherited IRA, and take annual Required Minimum Distributions (RMDs) from the account for the duration of their own lives. This provision was known as a “stretch IRA”. However, under the new SECURE Act, an inherited IRA balance must now be fully distributed within 10 years of the death of the original owner.
The abbreviated distribution timeline is significant because adult children, grandchildren, and other non-spouse IRA beneficiaries will have to distribute their inherited IRA balances and pay taxes on those assets much sooner than before. Under the new law, existing inherited IRAs will be grandfathered allowing the stretch provision to be maintained, but the new 10-year distribution rules would apply to IRA owners who die after December 31, 2019.
This change not only has implications for tax planning, but it also has potentially serious consequences for existing estate planning strategies. For example, if an IRA names a trust as beneficiary for asset protection and control purposes, that trust would now be required to fully distribute the IRA assets within 10 years, thereby eliminating the intended control over distributions to beneficiaries. Individuals with trusts named as IRA beneficiaries will have to review their estate plans with their attorneys and likely consider alternative planning strategies to achieve their goals. As a result, the SECURE Act may impact the use of IRAs in certain estate planning strategies.
2) Extending The Required Minimum Distribution Age
Before the SECURE Act, IRA owners were required to begin taking minimum distributions from their IRAs (and pay taxes on those distributions) when they turned age 70.5. The SECURE Act pushes that age to 72 starting in 2020. For most, this change will be a benefit because it will enable IRA owners to maintain control over their tax brackets longer.
Extending the age to 72 also creates more planning opportunities for individuals who are retiring in their early to mid-60s. Previously, those who found themselves with low taxable income (and relatively low tax brackets) in the years between retirement and the start of Required Minimum Distributions may have had opportunities to complete Roth conversions and other bracket-filling strategies at relatively low tax rates. Now, with RMDs commencing at age 72, IRA owners may gain up to two additional years to implement such strategies.
Another interesting planning opportunity exists for charitable giving due to the new law. While RMDs will be pushed to age 72 starting in 2020, Qualified Charitable Distributions from IRAs are still permitted beginning at 70.5 (Qualified Charitable Distributions give individuals opportunities to donate to qualified charities from their IRAs without having to pay taxes on the distribution).
3) Contributions To Traditional IRAs Beyond Age 70.5
Under the prior law, a taxpayer could not contribute to a traditional IRA after age 70.5. Recognizing that many people are living and working longer than in the past, the SECURE Act removes this restriction and allows contributions to traditional IRAs at any age. This not only provides another option for continued retirement savings, but it may also create additional tax planning opportunities for those who are eligible to receive a tax deduction for traditional IRA contributions. Certain income phase-outs apply to the deductibility of contributions to traditional IRAs.
4) Other Provisions
In addition to the substantial changes to IRAs described above, the Act includes some changes to employer- sponsored 401(k) plans, as well. First, it makes it easier for plan sponsors to include annuities as investment options within 401(k)s. It is important to note, however, this is made possible by lessening some of the fiduciary requirements of plan sponsors related to vetting insurance companies and their annuity products. The availability of annuities within 401(k)s could lead to more options and flexibility for retirement planning in general; but, as more and more plans begin offering annuities, we urge you to seek advice from a trusted financial adviser to determine if an annuity within a 401(k) fits your overall plan. The reduced fiduciary responsibilities of plan sponsors could lead to the rise of more complicated and expensive types of annuities that could prove to be more detrimental to one’s financial plan than beneficial.
The SECURE Act will also permit multi-employer 401(k) plans for small businesses. This will likely make it easier for small business owners to offer retirement plans and minimize costs via increased scale by joining with other employers.
Finally, some other notable provisions of the SECURE Act are perhaps more applicable to younger taxpayers. Up to $5,000 can be withdrawn from a retirement account without penalty if used for the birth of a child or for adoption expenses. However, this type of withdrawal will still be taxable at ordinary income tax rates. Another new rule allows up to $10,000 to be withdrawn from 529 plans to pay off student loan debt.
Planning Under The SECURE Act
In the coming weeks and months, there are likely to be several stories in the news about the SECURE Act as the IRS interprets the law and issues further guidance on how its various provisions are to be treated and enforced.
This content was originally published by Brian K. Schiess, CFP® of Modera Financial Planning & Wealth Management
