The SECURE Act was signed into law on December 20, 2019, bringing significant changes to retirement accounts.
The Act is largely aimed at helping individuals save for retirement and making it easier for small businesses to offer retirement plans to their employees, but also makes some big changes
to the handling of IRA assets. These changes will impact how we approach both retirement and estate planning for many clients. In this piece, we outline the primary changes impacting individuals and their heirs.
REQUIRED MINIMUM DISTRIBUTIONS (RMDS)
Under current law, individuals are required to begin taking distributions from non-Roth retirement accounts beginning at age 70 ½. The SECURE Act adjusts the age at which RMDs need to begin to age 72. This new law will apply to anyone who has not reached age 70 ½ by January 1, 2020. Anyone who is already age 70 ½ or older will continue taking RMDs based on the old law. This change is intended to account for longer life expectancies and simplifies the determination of when these distributions need to begin.
IRA CONTRIBUTIONS
Contributions to Traditional IRAs are now allowable at any age, provided the individual contributing has earned income in excess of the contribution amount in a given year. Previously, contributions were not allowed past age 70 ½ regardless of whether the account owner was still working.
Going forward, contributions will be allowed even if the account owner is simultaneously taking RMDs.
INHERITED RETIREMENT ACCOUNTS
In what is probably the most impactful provision for high net worth individuals, the SECURE Act repeals the ability to stretch distributions from inherited retirement accounts over the beneficiary’s lifetime. Inherited accounts will now need to be fully distributed within 10 years of the original account owner’s date of death. During that 10-year period, there are no restrictions regarding when or how funds need to be distributed, so long as the account is entirely depleted by the end of the 10th year. This rule applies only to retirement accounts inherited on or after January 1, 2020.
The Act allows for a few exceptions to the 10-year distribution rule. The exceptions apply to surviving spouses, the chronically ill, the disabled, minor children, and any beneficiary who is less than 10 years younger than the decedent. In the case of minor children, the 10-year distribution rule will apply once the child reaches the age of majority in his or her state of residence.
The impact of this change is significant to those with large retirement account balances. It not only reduces the benefit of the tax-deferred growth of these assets for heirs but has the potential to significantly increase the beneficiary’s tax bill since they can no longer stretch distributions out over their own life expectancy.
OTHER PROVISIONS
The act includes other provisions to benefit both small businesses and individuals. For small businesses, changes include an increased tax credit for small employer retirement plans, the adoption of an auto-enrollment provision for participants, and relaxed regulations to allow unrelated employers to join together in a pooled employer plan. Individuals will now also be able to take penalty-free withdrawals of up to $5,000 from retirement plans for qualified expenses relating to the birth or adoption of a child, and long-term part-time employees will be eligible to participate in their employer’s defined contribution plan. Funds in 529 Plans can now be used for apprenticeships, and individuals can withdraw up to $10,000 over the course of his/her lifetime for qualified student loan repayments.
PLANNING OPPORTUNITIES
Individuals with large retirement account balances will be most impacted by the SECURE Act. To mitigate some of the effects of these changes, you may want to consider some of thefollowing planning strategies:
Roth Conversions
Dependent upon your current tax bracket and the projected tax bracket of your beneficiaries, you may consider converting Traditional IRA assets into a Roth IRA. While this would result in an immediate tax bill, it may be worthwhile if your beneficiaries are likely to be in a higher tax bracket at the time of inheritance.
Life Insurance Trusts
Irrevocable Life Insurance Trusts are a fairly common estate planning tool for high net worth families, and now may hold even more value. Distributions from IRA accounts can be used to pay life insurance premiums during the account owner’s lifetime. At the insured’s death, the policy death benefit will be paid tax-free to the trust, which can then be used to pay taxes owed on distributions from retirement accounts or to pay the tax on a conversion of assets from a Traditional IRA to a Roth IRA.
Qualified Charitable Distributions
The SECURE Act does not affect regulations surrounding Qualified Charitable Distributions (QCDs). In order to make a QCD, an individual must be age 70 ½ or older (even though RMDs now do not begin until age 72!). Up to $100,000 per account owner per year can be distributed to a charity tax-free. For those who are charitably inclined, this is a good way to reduce IRA assets over time.
Charitable Remainder Trusts
Another option for those who are charitably inclined is to name a Charitable Remainder Trust (CRT) as a beneficiary on an IRA account. The CRT would inherit the assets, then distributes a fixed percentage of the account each year to a named beneficiary for a maximum term of 20 years. At the end of the term or when the beneficiary passes away (whichever comes first), the remaining balance will be paid out to a previously named charity. This is a powerful tax savings tool due to the charitable nature of the trust – no income taxes will be owed by the trust upon distribution of the original owner’s IRA, and the CRT is not taxed on income earned within the trust. The beneficiary will still owe taxes on the distributions he or she receives, but since distributions may be a combination of earnings and principal, the tax rate may be lower than it would have been otherwise.
Planning strategies such as those outlined above are highly dependent upon your own unique situation. Your Freestone Client Advisor can assist you in determining the impact of the SECURE Act upon your retirement and estate plans and can provide guidance based on your and your family’s needs.
Important Disclosures: Nothing in this document is intended to provide, and you should not rely upon it for, accounting, legal, tax or investment advice or recommendations. We are not making any specific recommendations regarding any retirement savings IRA conversion strategies, and you should not make any decisions regarding such strategies based on the information in this document. The intention of this document is educational, and it is intended only to discuss limited aspects of retirement savings plans in general terms. This document is not a comprehensive or complete summary of considerations regarding retirement savings plans or IRA conversions. Each individual is in a different situation and has different items to address, and the options in this document are not appropriate for everyone. Please consult your Freestone client advisor regarding options specific to your needs.