After a bumpy road for the new retirement bill in Congress, the SECURE Act came into effect on Jan. 1. Also known as the Setting Every Community Up for Retirement Enhancement Act, the law is one of the most comprehensive pieces of legislation to reform retirement savings.
What Is the SECURE Act?
The SECURE Act is intended to expand opportunities for individuals to save for retirement. The new retirement legislation will affect both individuals and businesses, as well as non-retirement programs like 529 plans.
There are a number of notable changes made by the SECURE Act, including the elimination of stretch IRAs, a new age at which required minimum distributions (RMDs) start, and the repeal of the age cap on traditional IRA contributions.
The following goes into more detail about these differences to further explain how the new House bill may change how you plan for retirement.
SECURE Act Impact on Inherited IRA
If you've inherited an IRA and it's been a year since the original owner's death, minimum distributions must be made before Dec. 31 each year. Prior to the new retirement legislation, the minimum distributions were generally based on the beneficiary's life expectancy. That meant the beneficiary could "stretch" the IRA over their lifetime.
Under the SECURE Act, most beneficiaries must withdraw the entire balance of the inherited IRA within 10 years of the account owner's death. However, the distributions over those 10 years don't have to be in equal payments.
There is no minimum distribution that must be taken out each year, and it can even be left untouched for the first nine years — as long as it is fully distributed by the 10th. While you have fewer years to empty an IRA account, there is greater flexibility during those 10 years. Here are some other points to keep in mind with the elimination of stretch IRAs:
- The new retirement legislation makes it even more important to recognize opportunities to minimize taxes by projecting cash flow and taking larger distributions in years with lower earnings.
- If a trust is named as a beneficiary of your IRA, that trust should be reviewed to confirm it provides the most flexibility under the 10-year rule.
- An IRA owner with charitable intentions can maximize the value of their account by naming a charity as the beneficiary. What's more, non-profits can recognize the full value of the IRA without paying any taxes. Naming a charity as the beneficiary of a pre-tax IRA allows the IRA owner to never recognize tax on the gain. And it might be the best strategy given the recent tax law change.
The new retirement bill does not affect current owners of inherited IRA accounts, and it excludes future accounts inherited by an "eligible designated beneficiary." This person could be the surviving spouse, minor-aged children of the deceased account owner (until they reach the age of majority), beneficiaries who are no more than 10 years younger than the deceased account owner, and disabled and chronically ill beneficiaries.
SECURE Impact on RMDs
The SECURE Act pushes back the start date of RMDs from age 70 1/2 to 72. In addition to the benefit of no longer having to calculate your half birthday, the new bill provides an additional year and a half of tax-deferred growth. Another benefit is the extra time for opportunities to fill up low tax brackets with early IRA withdrawals and Roth conversions — although Social Security benefits will need to be considered.
The change applies to those turning 70 1/2 in 2020 and beyond, so IRA owners who turned 70 1/2 in 2019 must still take RMDs under the old rule. However, RMDs from current employer retirement plans can continue to be postponed for employees that are still working and do not own more than 5% of the company.
Individuals can still donate up to $100,000 from their IRAs to charity after turning 70 1/2. There is no tax deduction for making qualified charitable distributions (QCDs) so we might see IRA owners wait until age 72 to make QCDs, rather than rush to use their IRAs to donate after turning 70 1/2. Some IRA owners may want to start taking QCDs at 70 ½ since it can reduce future RMDs by reducing the IRA balance. It can also be an especially helpful strategy for IRA owners taking the standard deduction.
Age restrictions changed
Individuals over the age of 70 1/2 were restricted from making traditional IRA contributions in the past. The SECURE Act repeals the age restriction so anyone with earned income — regardless of age — can make contributions to a traditional IRA. Lifting the restriction is great, especially since more Americans are working later in life.
Other SECURE Act Changes to Note
SECURE Act Impact on 401(k)s for Individuals
- The SECURE Act makes it easier for 401(k) plans to include annuities as an investment option. While an option for lifetime income may sound appropriate for retirees, time will tell if adding a confusing insurance product known for its heavy fees is a win for individuals — or just the insurance companies.
- Participants of a defined contribution plan like a 401(k) can take a distribution of up to $5,000 without the 10% penalty in the event of a qualified birth or adoption.
SECURE Impact on 529 Plans
- The savings from a 529 plan can now be used to pay federal — and most private — student debt, up to a $10,000 lifetime maximum for the beneficiary and another $10,000 for each of their siblings. The impact of this change is likely to be limited since it is more common for a 529 plan to be depleted before a student takes on debt.
- A 529 plan can also be used to pay for certain apprenticeship programs registered with the Secretary of Labor.
If you’re worried about how these changes will affect you — or if you’ve yet to start planning for retirement — contact a financial advisor today.