The Setting Every Community Up for Retirement Enhancement Act (SECURE Act) was signed into law on December 20, 2019, with significant changes to IRAs, Roth IRAs and qualified retirement plans. While some changes may increase access to employer-sponsored retirement plans, not all changes are favorable. With provisions being effective at the beginning of this year or retroactively to 2019, now is the time to consider how these new rules may impact your situation.
Repeal of maximum age for traditional IRA contributions. Unlike Roth IRAs, traditional IRA owners historically weren’t able to contribute past age 70.5, even if they were still working. Under the new law, traditional IRA owners can now make contributions past age 70.5, if they or their spouse have earned income.
Taxable non-tuition fellowship and stipend payments. Graduate and post-doctoral student’s taxable non-tuition fellowship and stipend payments now count as earned income for purposes of making IRA contributions.
Age increased for required minimum distributions. Under prior law, you needed to start taking required minimum distributions (RMDs) from your traditional IRA when you turned age 70.5. The same rule applies to retirement plans if you’re a 5 percent or more owner, even if you were still working. Under the new law, if you turn age 70.5 in 2020 or later, your RMDs from certain plans don’t start until age 72 and you have until April 1 of the following year to take your first RMD. The old rules still apply to those who turned age 70.5 prior to 2020. If you are less than a 5 percent owner of the company, haven’t retired, and the employer plan allows you to delay RMDs, you don’t need to start RMDs until you retire.
Qualified Charitable Distribution (QCD). Age 70.5 still applies to QCDs from your IRA or certain inherited IRAs. If you are age 70.5 or older, you can make QCDs of up to $100,000 per year directly from your IRA to charity and not have to include the distribution in taxable income. You don’t have to wait until age 72. Caveat – there is an adjustment to the QCD for any post-age 70.5 IRA contributions.
Inherited retirement accounts. For those who inherited IRAs, Roth IRAs and qualified retirement plans before 2020, distributions are taken over the life expectancy of the designated beneficiary if that’s an individual or a qualified trust. If children or grandchildren inherited a retirement account, they are able to stretch those RMDs over their life expectancies.
The new law severely shortens the stretch for these accounts. For deaths of account owners after 2019, beneficiaries must fully distribute the inherited account by the end of the tenth calendar year following the account owner’s death. This accelerates the income tax to individuals or certain trusts named as beneficiaries and how fast the cash comes out to beneficiaries, perhaps faster than desired.
This new rule doesn’t apply to certain designated beneficiaries (now called eligible designated beneficiaries), including 1) the spouse, 2) a minor child, 3) a disabled or chronically-ill person, or 4) a person not more than 10 years younger than the account owner (i.e. sibling). A minor child becomes subject to the 10-year rule starting at the age of majority (age 18 in New York), so the account would be fully distributed before they turn age 29.
Unchanged under the new law – For IRA owners who die before age 72 and have named their estate, a non-qualified trust, or charity as beneficiary, the IRA must still be distributed within 5 years of the IRA owner’s death. If the IRA owner dies after age 72 with any of those beneficiaries, the inherited IRA beneficiaries would take the distributions over the deceased owner’s remaining life expectancy.
Penalty-free withdrawals for birth or adoption. An exception to the 10 percent early withdrawal penalty was added under the new law for a qualified birth or adoption distribution of up to $5,000 per taxpayer. Also, the individual can later put the money back into the account and not have it count as a contribution.
More 529 Plan distributions are qualified education expenses for tax-free treatment. Retroactively to January 1, 2019, up to $10,000 in withdrawals to pay principal and/or interest on qualified higher education loans now count as qualified education expenses for federal. However, they might not for state. Be sure to check how your state’s 529 Plan will treat withdrawals. For instance, New York’s 529 Plan hasn’t yet decided if those withdrawals will count as a qualified distribution, so you might want to wait for clarification. The 2017 federal tax law allowed withdrawals for K-12 tuition to be eligible expenses, but New York’s 529 Plan didn’t consider them as higher education expenses, resulting in state tax consequences.
Also keep in mind that if you use 529 Plan funds to pay interest on student loans, you can’t then deduct that interest “above-the-line” on your tax return.
529 plan distributions for fees, books, supplies and equipment required for the beneficiary’s participation in a registered apprenticeship program now count as qualified education expenses.
Kiddie tax. The kiddie tax rules in effect prior to the Tax Cuts and Jobs Act (TCJA) have been reinstated under the SECURE Act. Starting in 2020 (or retroactively to 2018 or 2019), net unearned income of a child is taxed at the higher of the parent’s rate or the child’s.
Other changes for individuals and employers under the SECURE Act:
- Certain retirement plans adopted by due date of employer’s tax return (including extensions) treated as in effect as of the close of the prior tax year
- Unrelated employers can more easily create and maintain a single retirement plan starting in 2021
- Increased credit for small employer pension plan start-up costs
- New small employer auto-enrollment credit
- Automatic enrollment safe harbor cap increased
- Looser notice requirements and amendment timing rules for nonelective contribution 401(k) safe harbor plans
- Long-term part-time employees eligible to participate in 401(k) plans starting in 2021
- Nondiscrimination rules modified to protect older, longer service participants in closed plans
- Expanded portability of lifetime income annuity options
- Fiduciary safe harbor added for selection of lifetime income annuity providers in retirement plans
- Qualified plans barred from making participant loans through credit cards
- Increased penalties for failure to file retirement plan returns
- Tax-exempt difficulty-of-care payments count as compensation for making retirement contributions
The SECURE Act completely shakes up everything related to retirement accounts. The implications will be different for everyone and should be viewed holistically. You may need to revamp your current estate plan to avoid any undesirable results, and you may want to reconsider who your beneficiaries should be on retirement accounts, the structure of trusts formed in your will or revocable trust, how you satisfy charitable inclinations and who should inherit which assets and how.
Any existing trusts should be re-examined to see if they can and should be modified. Roth IRA conversions should be evaluated in the context of the rest of your financial and tax situation like usual, but also in light of this law change. This also adds further considerations to the decisions on whether to contribute to a Roth IRA or Roth 401(k) over traditional accounts in your accumulation years.
Please do not delay in gaining an understanding of how the SECURE Act affects your company retirement plan and your personal tax, retirement and estate plans. Reach out to our Bonadio team today to learn more.