How THE SECURE ACT Affects your Retirement Plans
By: Ronald L. Siegel
On December 20, 2019, a new law was passed that has a significant impact on almost all tax deferred retirement accounts, including IRAs and 401(k)s. Although several of the provisions are of benefit to some taxpayers, a major provision of the legislation is very unfavorable.
Increase in Age for Participant’s Required Distributions, Contributions.
For persons who have not yet attained age 70 ½, the age for which withdrawals from a retirement account must commence has been increased from 70 ½ to 72. Another benefit is that those persons eligible to contribute to an IRA may now do so regardless of their age. Previously, there was an age limit of 70 ½ for additional contributions.
The Partial Elimination of Stretch IRAs.
With certain exceptions, the Secure Act eliminates the “stretch” distributions that were previously available to non-spouse beneficiaries. Surviving spouses can continue to roll over an inherited IRA into their own, as they could under prior law. For purposes of this Article, all tax-deferred retirement accounts, including IRAs and 401(k)s are sometimes referred to as “IRAs.”
Previously, when a non-spouse inherited an IRA, he or she could elect to withdraw the assets and pay tax on them over his or her life expectancy. Unless an exception is met, the Secure Act eliminates the stretch, and instead requires that payments be made within ten years of the retirement account owner’s death. This will have a huge impact on non-spousal beneficiaries. Because the IRA assets must be withdrawn (and tax paid) within ten years, the following will occur:
- The distribution amounts will likely be taxed at a higher rate, as more taxable income will be incurred during the ten year period.
- Because the assets are being withdrawn from the retirement account sooner, the pretax growth will be reduced.
- Besides possibly pushing a beneficiary into a higher bracket, the additional income can have a negative effect on other tax return items, such as deductions that are based on adjusted gross income.
Retirement Accounts and Trusts.
Many taxpayers have chosen to have their retirement accounts payable to a Trust for one or more beneficiaries. The same ten-year limit now applies to Trusts. Because Trusts are taxed at the highest income tax bracket on any income over $12,950.00 in a year, the income tax payable by Trusts that accumulate income will be substantially increased. Moreover, the language in existing Trusts that are expecting to receive IRA distribution needs to be carefully reviewed, and possibly modified. Because Trusts in effect prior to the Secure Act could not have contemplated this change in the law, depending on the language of the Trust, it is conceivable that income tax could be payable on the entire IRA amount in one year.
A Trust set up as a Conduit Trust is especially in need of review. Intended as a way to stretch out distributions through a Trust over a Beneficiary’s life expectancy while still keeping the beneficiary from having full access to the IRA, the opposite could now occur, as the beneficiary will receive the entire balance of the IRA within 10 years of the account owner’s death.
There are several exceptions to the elimination of the ten year period:
- Minor child beneficiary. If a beneficiary is a minor, assets payable to or in Trust for that beneficiary will not be subject to the ten-year rule until the minor either achieves majority, or is pursuing an education on a fulltime basis. This could allow a beneficiary to not have the ten-year clock start to run until the beneficiary attains age 26. This exception is only available for children, and would not, for example, apply to a grandchild of the IRA owner.
- Disabled Person. If a beneficiary is under a disability, the ten-year limitation will not apply, and the withdrawals can be made over that beneficiary’s life expectancy.
Although Roth IRAs are not subject to income tax, the rules of the Secure Act still apply. The detriment is that the tax-free growth of the Roth IRA will come to an end much sooner.
Based on the above, persons with significant funds in retirement accounts should closely review their beneficiary designations in light of the Secure Act. In particular, persons with retirement account benefits payable to a Trust need to review how they want the benefits to be paid, and in particular, to review and possibly modify the language of their Trust. In some cases, due to the higher income taxes that will likely be incurred on retirement benefits payable to a Trust, consideration should be given as to whether outright distribution of the retirement benefits is preferred.
With more than 30 years of experience, attorney Ronald L. Siegel is a Florida Bar Board Certified specialist in Wills, Trusts and Estates. From his office in Boca Raton, Florida, he focuses his practice in all aspects of estate planning, probate, trust administration, guardianship and real estate. He can be reached at 561-241-3113.