The Secure Act
What Is It?
The SECURE Act (Setting Every Community Up For Retirement Enhancement Act of 2019) was incorporated in the Federal Appropriations bill in mid-December 2019. This legislation has some good features, most of which are designed to encourage employers to offer retirement plans and also to encourage employees to contribute to retirement plans.
Some of the positive features include:
- A tax credit for small business employers of as much as $5000 for small businesses to set up retirement plans;
- A tax credit for employers if they set up automatic enrollment;
- Repeal of the maximum age (previously 70 ½) for making contributions of earned income to a traditional IRA;
- Allowing long-term part-time workers to participate in 401(k) plans;
- Allowing for penalty-free withdrawals for “qualified birth or adoption distributions”; and
- Increasing the Required Beginning Date for Minimum Distributions from 70 ½ to 72.
To offset the tax cost of these improvements the SECURE Act has several revenue-raising provisions, the most important from an estate planning perspective involves the modification of the Required Minimum Distribution rules on inherited qualified accounts (IRAs, 401(k)s, 403(b)s, etc).
Inherited Retirement Accounts
Beginning on January 1, 2020, when a retirement plan participant passes away, the rules for determining how much money must be withdrawn from an inherited retirement account by the heir are significantly different.
The new law requires most beneficiaries to use a “Ten Year Rule”. This means that all of the funds inherited in a qualified retirement account must be withdrawn by the end of the 10 year period that begins at the deceased account owner’s death. Beneficiaries will have some flexibility to determine how much will come out of the inherited retirement account in any given year during the 10 year period. For example, one heir may decide to withdraw 1/10th in the first year, 1/9th in the second year and so on, so that all of the retirement plan has been withdrawn by the end of year 10. Another beneficiary could decide to withdraw nothing during years 1 through 9, using the power of tax deferral to maximize appreciation during that time and then withdraw the entire balance in year ten. Of course, there are a variety of other options as well.
There are exceptions to the ten-year rule. A surviving spouse may still roll-over an inherited retirement account. Disabled or chronically ill individuals may use the stretch-out (where minimum distributions may still be taken over the life expectancy of the beneficiary). Additionally, children (not stepchildren or grandchildren) of the retirement account owner, who are under the age of majority at the time of the retirement account owner’s death, may also use the stretch-out – but only until they reach the age of majority.
The issue becomes one of dealing with the taxation on the amounts withdrawn from the retirement
plan. Under the Tax Cuts & Jobs Act, which went into effect last year, tax rates have been reduced and tax brackets have been widened. However this law sunsets on December 31, 2025, and the old tax rates and tighter brackets will return. As a consequence, taxes on distributions under the 10-year rule will be significantly higher. What does this mean? Essentially, it means that the Federal Government is having a sale – taxes are discounted for the next 5 years. Remember that Congress may change the tax rates at any time – and if tax rates are changed before December 31, 2025, it is unlikely that tax rates will go down. Currently, taxes are near historic lows.
There is still much to analyze. Over the coming months, the IRS will likely need to issue new regulations, providing much-needed guidance on the issues raised by the new law. However, there are several possible solutions that you will need to consider. We plan to go into detail on the various options in an upcoming seminar. Here are a few of the possible options:
- Use a multi-generational spray trust;
- Implement a multi-year Roth Conversion plan;
- Do not use spousal rollovers;
- Convert IRA Inheritance Trusts™ to Capital Gains Avoidance Trusts
- Consider Irrevocable Trusts as beneficiary of retirement plans sited in states with favorable income tax laws;
- Implement Non-Roth Conversions;
- Name a HEET Trust as beneficiary;
- Name a Family Bank Trust as beneficiary; and
- Naming Charities as beneficiaries of retirement plans.
Each of these options may have benefits and pitfalls. Again, we will cover these in detail during our upcoming seminar on the SECURE Act. We look forward to seeing you there!
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