The Setting Every Community Up for Retirement Enhancement Act (the SECURE Act) was recently signed into law. This comprehensive retirement and savings bill has a number of significant provisions that took effect starting Jan. 1, 2020.
The Passage of the SECURE Act has several important changes that could affect your financial strategies, including:
- Increase in the required minimum distribution (RMD) age to 72 from 70½
- No age limit for contributions to traditional IRAs for those still working
- Limited "stretching" of inherited IRAs for non-spouse beneficiaries
- Ability to take a distribution without penalty from IRA for birth or adoption
- Expansion of 529 savings plans
Given these changes, it is important to discuss your strategy with your financial advisor, tax professional and maybe your attorney to see if any adjustments should be made. For example, strategies such as Roth conversions may be more attractive with the passage of this law.
The following are some of the highlights and what each potentially means to you:
Required minimum distribution (RMD) age increases to 72 from 70½
If you were born on or after July 1, 1949, your RMD age is now 72. If you were born on or before June 30, 1949 (meaning you turned 70½ before the SECURE Act took effect), your RMD age remains 70½.
What this means for you:
- If you do not need a distribution from your retirement account(s), you now have some more time to earn tax-deferred growth before distributions are required.
- That said, you may still want to review your withdrawal strategies. If you have access to a combination of taxable accounts, traditional retirement accounts and/or Roth retirement accounts, you may want to review which is the best to take withdrawals from considering your current tax situation and your desire to leave assets to your heirs.
- In addition, even though RMDs are no longer required until you reach age 72, the age at which you can take a Qualified Charitable Distribution (QCD) from your traditional IRA will continue to be age 70½. QCDs are nontaxable distributions from an IRA (other than an ongoing SEP or SIMPLE IRA) that are paid directly from the IRA to a qualified charity. Each year, up to $100,000 in QCDs can be used to reduce taxable income and, if applicable, offset RMDs. It should be noted that deductible contributions made during or after the year you reach age 70½. It should be noted that the allowable amount of QCDs will be reduced by any deductible contributions you made to an IRA in or after the year you turned age 70½.
No age limit for contributions to traditional IRAs for those working past age 70½
You can now continue to make contributions to your IRA past age 70½, assuming you meet the income requirements to contribute to an IRA.
What this means for you:
- For individuals working past age 70½, you can now continue making contributions and enjoying additional potential growth. That said, remember that RMDs from traditional IRAs will still be required once you reach age 72 (for those born on or after July 1, 1949) or 70½ (for those born on or before June 30, 1949), although RMDs are waived for 2020 because of the CARES Act.
More limited "stretching" for non-spouse beneficiaries – replaced with 10-year limit
Non-spouse beneficiaries used to have an option allowing them to "stretch" the required minimum distributions from an inherited IRA over their lifetimes, allowing the potential for smaller distributions and more tax-deferred growth. With the passage of the SECURE Act, unless the beneficiary is an "eligible designated beneficiary" (see examples), distributions are required to be distributed over a 10-year period.
Eligible designated beneficiaries who are still allowed to "stretch"
- The surviving spouse
- A minor child of the account owner (shifts to 10-year limit when the minor reaches age of majority)
- A disabled/chronically ill individual (as determined at the date of the owner's death)
- An individual who is no more than 10 years younger or who is older than the participant/IRA owner (for example, a sibling who is close in age)
What this means for you:
- With this change, it may be important to review your estate strategy if you own retirement accounts, especially if the beneficiary on those accounts is a trust or is not an "eligible designated beneficiary" (for example, a minor grandchild).
- Consider Roth conversions: You may consider making Roth IRA conversions over your lifetime, so your heirs receive a Roth IRA (which generally has tax-free distributions) rather than a traditional IRA (which has taxable distributions). As discussed later, Roth conversions have tax implications, however, so make sure to consult with your tax professional to determine whether a Roth conversion makes sense for you.
- Consider life insurance: Assuming you are on track to meet your retirement goals and you would also like to find a way to pass along some money to heirs, life insurance could be a consideration for you. Life insurance could be used to ensure a specific dollar amount is passed along to your heirs or to help cover additional taxes. Life insurance is not a replacement for an IRA as a means to save for retirement, however, so you should work with your financial advisor to make sure you are working toward all your goals. Your financial advisor can also assist with determining what kind of life insurance – and how much – would help ensure your heirs have what they need to cover taxes.
- Review your trust: This change could impact certain trusts, such as "see-through" trusts, so it is important to discuss with your legal professional if you had a trust drafted to take advantage of the "stretch" rules.
For those who inherit a retirement account that must be distributed within 10 years, note that while the entire value of the account must be distributed by the end of the 10th year, you may not have to take a distribution each year. If the original account owner died before they were required to take RMDs, annual distributions aren't required, and it may make sense to try to structure distributions when you may have a more advantageous tax rate (for example, take higher distributions in years when you have lower expected income or no distribution in a year with unusually high income). We’re currently waiting for guidance from regulators about whether annual distributions are required, if the original account owner died after they were required to take RMDs. If annual distributions are required in this scenario, there may be less flexibility to structure distributions advantageously.
Penalty-free distributions from retirement accounts for birth or adoption
Parents can take up to $5,000 of penalty-free distributions from their retirement accounts, including their IRAs, in the year following the birth or adoption of a child.
What this means for you:
- While you may be able to take a distribution, it is important to understand the trade-offs of withdrawing money from your retirement accounts versus keeping it invested for your long-term goals. Your financial advisor can run different scenarios to highlight what might make the most sense for your situation.
Expansion of 529 education savings plans
A 529 plan account can now be used to cover costs associated with registered apprenticeships and for up to $10,000 of qualified student loan repayments, without worry about federal income tax and penalties. State laws may vary in their treatment of these expenses.
What this means for you:
While the distributions would be considered a qualified distribution at the federal level, it is still important to check with your state's laws to ensure it is also qualified at the state level. Grandparents who own 529 plans for their grandchildren may consider this option versus potentially paying for tuition while the children are in school, as it could be more advantageous from a financial aid perspective.
Potentially lower taxes with a Roth IRA conversion
Depending on your circumstances, a Roth IRA conversion could lower the overall taxes paid on the assets you wish to leave to your non-spouse heirs. When you pass along a traditional IRA, your heirs must pay income tax on the assets distributed from the account, which now generally must be completed over a 10-year period. This may mean increasing not only the size of the distributions but also the potential taxes owed – as the larger distributions could now push them into a higher tax bracket. With a Roth IRA, the distributions your heirs take are generally tax-free.
That said, when you convert assets from a traditional IRA to a Roth IRA during your lifetime, you pay income taxes on the amount converted. Depending on your income and tax rate, this tax rate may be lower than what your heirs would pay, which could make it an advantageous strategy for some. Consult your tax professional, in addition to your financial advisor, to determine if this strategy would be helpful in achieving your legacy goals.
Making your retirement "secure"
If the above items apply to you, you may want to discuss your situation with your financial advisor to see if any adjustments need to be made. In addition, you will want to consult your tax, legal and/or estate planning professionals, as your financial advisor cannot provide tax or legal advice.
Notably, one of our most important goals is to work alongside you to understand what is most important to you, and then use an established process to help you achieve those goals. A "secure" retirement may be one of those goals. Your financial advisor can help you determine if any adjustments need to be made to your strategy, whether because of the above rule changes or simply based on how you are progressing toward your goals, to ensure you're on track toward retirement security.