Passed at the end of December 2019 as part of the government spending bill, the SECURE Act brings multiple changes to how you and I can and will use IRAs and 401(k)s both before and into retirement.
1. Required Minimum Distribution (RMD) age raised to 72
The prior law required participants in IRAs, 401(k)s, and virtually all other retirement plans to begin taking minimum withdrawals after reaching age 70 ½. Now taxpayers reaching age 70 ½ in year 2020 or later, can continue to defer withdrawals for an additional two years. It does not apply to those that reached 70 ½ prior to 1/1/2020.
There will also be changes in the RMD life expectancy tables beginning in 2021 further allowing retirement dollars to remain tax deferred a bit longer.
2. Qualified Charitable Distributions (QCDs) still begin at age 70
The ability of a taxpayer to send funds directly from their IRA to a qualified non-profit continues to be available as early as age 70. Though this carries the very real potential for confusion, it is still an excellent planning opportunity for many of you.
If you are age 70 or older and have on-going charitable contributions (church, etc.) you still fund out of pocket – explore the QCD with your tax or financial advisor to see if there are tax savings for you.
3. Beneficiary designations on IRAs and 401(k)s need to be reviewed
Many taxpayers have identified either trusts of their ‘estates’ as the beneficiary of their IRAs or 401(k)s. This becomes significantly less attractive under the SECURE Act. If this is your situation, please meet with your financial advisor to review options that may well meet your needs and save on income taxes down the road.
4. Stretch IRAs are Gone
Prior to this Act, when an IRA was inherited, the beneficiary had the option to receive payments over their own (often very long) life expectancies. This allowed for significant tax deferral – often well into the retirement years of the beneficiary.
Now . . . for taxpayers passing after December 31, 2019, beneficiaries will be required to remove all IRA assets by the end of the 10th year following the year of death.
Previously, beneficiaries of inherited IRAs were required to take annual RMD withdrawals. Under SECURE the only RMD requirement is in the 10th year when all remaining assets must be withdrawn. This provides significant flexibility in tax planning for beneficiaries who can now select the year(s) exposing them to lowest income tax on their distributions within their ten year window.
There are exceptions for some folks under this rule. The most significant one is for spouses. Spouses will not be required to follow the ten year rule. Please consult your tax advisor prior to accepting any inherited IRA funds to determine your tax status, any possible exceptions, and any possible planning actions that could benefit you.
5. Tax Management Opportunities likely more valuable
Roth conversions strategies, using lower income tax bracket windows, and Qualified Charitable Distributions (QCD) can all be more valuable. Employing tax management strategies prior to death will have a substantially greater impact on the beneficiaries of taxpayers with traditional IRAs and/or 401(k)s than prior to the Act.
Annual consults with tax advisors will for many taxpayers become the crucial opportunity to create tax advantages within lower tax bracket windows as those windows present themselves. The old rule of deferring income tax liabilities for as long as possible may well change to pay the lowest tax possible as soon as possible to spare future generations from high tax rates.
6. Life Insurance an Important Tool for Large IRAs and 401(k)s
As other tax management tools become less effective, life insurance becomes more attractive. Large (a relative term for each taxpayer and their beneficiaries) retirement plans will now leave beneficiaries with larger tax bills. Life insurance is (and has always been) designed to create blocks of money at the time they are needed most.
Used correctly, life insurance provides significant leverage – producing far more dollars in death benefit than are required to be paid in premiums. Inside an effective estate plan, taxpayers will identify the costs to both settle their estates and to fund the tax liabilities they pass on to their heirs. When those tax liabilities are larger than the taxpayer finds comfortable, an exploration of life insurance becomes required.
As is always the case, life insurance will not be appropriate (or even available) to every taxpayer. Consult with your financial advisor to explore your options.
7. Still Working after Age 70? You can contribute to your IRA!
Previously, the opportunity to contribute to an IRA ended when a taxpayer turned age 70. This limitation has been eliminated starting in tax year 2020. Whether a taxpayer is an employee or self-employed, they may continue to fund their IRAs as long as they have earned income. For many taxpayers working part-time in retirement, they will be able to contribute most/all of their earnings and consequently pay no income tax on their earnings. Of course, each individual must evaluate their specific cash flow situation to determine if this is the best option for them.
8. IRAs can now help new parents
Newly exempt from the 10% early withdrawal penalty is a distribution of up to $5,000 to fund either the birth of or adoption of a child. The distribution must be taken within one year of the birth or legal adoption. The funds can be repaid to the IRA at any time in the future (not limited to the ‘normal’ sixty (60) day return requirement).
9. Students can make IRA contributions when receiving fellowships and stipends
Students receiving taxable non-tuition fellowship and stipend payments may use those compensations as the basis for IRA contributions.
10. Bonus Planning Tip – 529 Plans
The SECURE Act provides for the owners of 529 plans to use up to $10,000 to repay qualified student loans. The Act also provides 529 plan owners the option to pay for qualified apprenticeship programs as well.
MtM Financial group does give tax advice and will be happy to answer any questions you have. The SFA does not give tax and legal advice. This information is not intended to be a substitute for specific individualized tax or legal advice.