The SECURE Act: Highlights of the New Rules that Impact Your Retirement Accounts

The SECURE Act: Highlights of the New Rules that Impact Your Retirement Accounts

By: Carli Smith, CFP®, Wealth Management Advisor

Over the last 24 months, there have been two major Congressional actions that have impacted tax payers, the Tax Cuts and Jobs Act from 2017 followed by the SECURE Act, which was signed into law at what seemed to be the final hour of 2019. The latter of the two, the SECURE Act, passes into law new rules primarily surrounding individual and employer sponsored retirement plans. In an effort to authorize $1.7 trillion of federal spending, the Act incorporates many rules that will impact all tax payers, but primarily those with substantial tax-favored retirement savings. While there is a lot of good coming out of this Act, there are also some new rules that will cause a greater tax burden, particularly to those who will inherit a retirement account in 2020 and beyond. It is our goal to help our clients and community to better understand the major changes made by the SECURE Act and how it impacts them. As such, below are the major highlights of the SECURE Act.

Inherited IRAs
The first and most notable change is the elimination of the “stretch” provision for most non-spouse beneficiaries of inherited IRAs and other retirement accounts. Prior to the new legislation, non-spouse beneficiaries had the opportunity to take distributions over their lifetime. This allowed the tax liability of such distributions to be spread out over a lifetime rather than in a condensed time frame. The big change with the new law is that any retirement account owner that passes away in 2020 or later, beneficiaries are required to distribute out the funds from the inherited retirement account within 10 years. The unfortunate casualty of this new rule is that it will certainly carry a much greater tax burden as the distributions will be larger each year, causing the tax liability to be greater. It is important to note, that how you take the distributions is up to you. You are not required to take them equally over the 10 year time frame. For example, if you know you will be in a lower tax bracket the last half of the 10 year window, it would be in your favor to wait to take those distributions until then. The good news is that for anyone who passed away in 2019 or prior, the beneficiaries are still allowed to stretch out the distributions over their lifetime. In addition, there is a group of eligible designated beneficiaries that are not subject to the 10 year rule. They will be able to take the distributions over their life expectancy. Those beneficiaries are listed below.

  • Spousal beneficiaries
  • Disabled beneficiaries
  • Chronically ill beneficiaries
  • Individuals who are not more than 10 years younger than the decedent
  • Certain minor children of decedent, but only until they reach age of majority

Required Minimum Distributions
The second notable change is the age in which an individual is required to start taking RMDs. Prior to the new law, an individual was required to start taking RMDs no later than April 1 in the year after they turn 70 ½. Now, an individual is required to start taking RMDs in the year after they turn 72. For those who do not want to take RMDs or do not necessarily need all of the required distribution to live on, this is a welcomed new rule as they can take the opportunity to delay the taxable income from the RMDs. In addition, it allows for a longer time frame to take advantage of Roth conversions. You can read more about this strategy here.

It is important to know that the new rule only impacts those who turn 70 ½ in 2020 or later. What this means is that anyone who turned 70 ½ on December 31, 2019 will still have to start taking RMDs the following year (in this case in 2020), each year thereafter, and is not able to delay until age 72.

Qualified Charitable Distributions (QCDs)
With the RMDs being pushed back to age 72, does this also mean that QCDs cannot be made until age 72? The answer is “NO”. You may still make a qualified charitable distribution prior to turning 72 up to $100,000 for the year on a pre-tax basis. Once the individual turns 72, any amount given to charity can then count towards an RMD.

Age Limit for Contributions to a Traditional IRA
One of the more favorable items from the SECURE Act is the removal of the age limit in which you can make deductible contributions to a traditional IRA. Prior to the new law, once you turned 70 ½ you were no longer allowed to contribute to a traditional IRA regardless of having earned income. This age limit has been lifted. Beginning in 2020, individuals of ANY age will be allowed to contribute to a traditional IRA as long as they have enough earned income from wages or self-employment. This is a nice win for individuals as people are working and living longer. Any additional amount of time to save for retirement is extremely beneficial.

Annuities in 401k Plans
The SECURE Act has adopted rules that make it easier for retirement plan sponsors to add annuities into their employees’ retirement plans. Up to this point, most plan sponsors have avoided adding annuities as an investment option in their line up out of fear that the insurance provider is unable to meet its obligations at some point down the road. Such an outcome could result in a liability to the plan or plan fiduciaries. For this reason, it is estimated that less than 10% of all employer sponsored retirement plans offer annuities. With great effort from lobbyists from the insurance industry, they succeeded in helping push through a new rule that protects the plan fiduciary from such liability by creating two requirements that need to be satisfied while conducting a search for an annuity provider. In simple terms, plan sponsors have to check a few boxes and make sure the cost is reasonable in order to gain liability protection.

PROCEED WITH CAUTION: For participants of a plan that have added an annuity, it is in your best interest to talk with your financial advisor prior to buying into it. That means speaking to an advisor other than the plan advisor who is adding the annuity to the plan. Annuities are notorious for being expensive, lacking transparency, and lacking flexibility. There are better ways to achieve your income goals without signing your life savings away into an annuity. There are reasons the insurance industry lobbied so much for this protection for the plan fiduciary.

Lifetime Income Calculations in 401k Plans
The legislation is going to start requiring a calculation of the estimated income in retirement that a participant’s 401k can generate over his or her lifetime. The Labor Department still needs to come up with the assumptions used to calculate this number, but once they do, 401k plans will have to disclose this calculation one year from the date they finalize them.

PROCEED WITH CAUTION: This is another step in the right direction for helping individuals understand the impact of their savings or lack thereof. However, it is important to understand that the key to this is understanding the underlying assumptions. Income in retirement can be calculated in so many ways and is highly dependent on what the underlying investments are, the current savings rate, considerations for market movement over time, retirement date, life expectancy, etc. In addition, to get a true sense of how on target a participant is for retirement, outside accounts should be a part of this equation. Working with a Financial Advisor who is able to aggregate your information and investments, plus take into consideration your actual goals and tax situation is a better option to get more reliable information.

529 Plans – Student Loans and Apprenticeships Are Now Considered a Qualified Expense
Apprenticeship programs that include fees, books, supplies, and required equipment are now considered a qualified higher education expense. An even more popular addition is the start of “Qualified Education Loan Repayments” as a qualified higher education expense. These distributions can be used to pay principal and interest of student loan debt up to a lifetime cap of $10,000 (per person). It is important to note that the debt can only be paid for the beneficiary of the 529 plan and the beneficiary’s siblings.

The Honorable Mentions of the SECURE Act
While the above are the major items that we think will impact our clients the most, the items below are also worth mentioning as an important piece of this new legislation.

  • Credit for small businesses for establishing retirement plans
  • Credit for small businesses for adopting auto-enrollment
  • Access to employer sponsored plans for long-term part-time workers
  • Taxable Non-Tuition fellowship and stipend payments treated as compensation for the purpose of contributing to an IRA
  • Kiddie tax is reverted back effective for 2020 and beyond. Can be elected for 2018 and 2019 tax years
  • Medical expense deduction AGI hurdle rate is to remain at 7.5%
  • Penalty free withdraws from a retirement account for up to $5,000 for a child’s birth or adoption

In Conclusion
The SECURE Act incorporates many new provisions that impact tax payers. While it is not nearly as impactful as the Tax Cuts and Jobs Act of 2017, it is important to understand the major components as it will impact those with retirement accounts. At ML&R Wealth Management, we are here to help our clients understand what this means for their financial plan and make any necessary adjustments to accommodate the new rules.

 

Below, Wealth Management Partner, Vanessa McElwrath recently gave an interview regarding the SECURE Act changes and its impact on retirement. Click here to view this video.

About Author

Carli Smith, CFP®

Carli Smith is ready to embark with you on your financial journey. She will take the time to understand your values and listen to your goals. With this solid foundation, she will build out a long-term investment strategy and a dynamic portfolio based on the comprehensive financial planning built out around what matters most to you. Her attention to detail, love of problem solving, and compassion for clients allows her to be an ideal investment management advisor.

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