As 2019 came to a close, Congress passed and the president signed the SECURE Act, which will make significant changes in the rules that govern retirement accounts.
Some of provisions will make it easier for Americans to save for retirement. In part, these changes are long overdue, and we support the legislative modifications. But bills that pass Congress are born of compromise, and portions of the new law will create new challenges that must be addressed.
With that in mind, let’s jump in and discuss the major provisions.
The SECURE Act – designed to enhance security
- The new law raises the age for required minimum distributions (RMD) from 70 ½ to 72. This makes complete sense. Americans are working and living longer. Previously, one was required to begin taking minimum distributions from an IRA when he/she turned 70 ½.
Beginning January 1, the first RMD must be taken when you turn 72. Although the IRS could provide clarification, someone who turned 70 ½ in 2019 should continue to abide by the prior restrictions.
- You may contribute to a traditional IRA past age 70½ if you are still working. Like the change to the RMD, we applaud this update, as it is an added incentive to save for retirement.
Other changes include:
- The act will require that plan participants receive a monthly projected income statement based on current retirement assets. Think of it as a progress report that will help keep workers on track. The rules and how this may play out may not come into force until next year or the year after.
- The new law will raise the cap for auto enrollment contributions in employer-sponsored retirement plans from 10% of pay to 15%. It will also encourage small business owners to join forces and offer 401(k) plans.
- Further, part-time workers may gain access to 401(k) plans, as any employee who worked more than 1,000 hours in one year, or 500 hours over 3 consecutive years, must be allowed to join their company’s plan.
- While not directly tied to retirement, funds in a 529 plan can now be used to pay down student loans – up to $10,000 over the student’s lifetime. In addition, a 529 plan may also be used to pay for certain apprenticeship programs.
- Parents may withdraw up to $5,000 penalty-free from an IRA or an employer-sponsored retirement plan to pay for adoption or birth expenses within the first year. However, taxes will be required on the withdrawal.
- The SECURE Act also makes it easier to offer annuities in 401(k) plans.
- Participants will no longer be able to access 401(k) funds via a credit card.
Significant limitations on the ‘Stretch IRA’
The passage of the bill was not without controversy. Previously, assets in inherited retirement accounts, often called Stretch IRAs, could be distributed over the beneficiary’s lifetime. The new law only applies to accounts inherited in 2020 and beyond.
- Today, those assets must be distributed within 10 years, which may have significant estate planning implications.
Spouses, minor children, disabled individuals and people less than 10 years younger than the deceased are exempt.
The new provision will likely reduce tax-deferred growth and increase the beneficiary’s taxes. But there are ways to mitigate the tax bite.
Two that you may consider:
The law does not require annual distributions over the ten-year period. If one is nearing retirement and expects to be in a lower tax bracket in, for example, 5 years, you may hold off on distributing assets until you drop into a lower tax bracket.
If you are young and in a low tax bracket, you may take larger distributions in the early years or consider partial conversions into a ROTH IRA. You’ll pay taxes on the distribution, but the converted assets are sheltered from future taxes.
We understand that changes in tax laws may create confusion. Consider our ideas as a guideline or consult with your tax advisor. Or, simply reach out to us for a consultation.
Sources: SECURE Act And Tax Extenders Creates Retirement Planning Opportunities And Challenges
Fidelity: The SECURE Act and You
Charles Schwab: Significant Retirement Savings Law Changes Are Coming in 2020