On December 20, 2019 the President signed into law the Setting Every Community Up for Retirement Enhancement Act (the SECURE Act). The new law is intended to expand opportunities for individuals to increase their retirement savings. Some of the changes give people more flexibility and others, less so. We’ll start with the changes that will impact the most people first and work our way down.
A new start date for Required Minimum Distributions (RMDs) from IRA’s and retirement plans
The SECURE Act raises the age after which you must begin taking RMDs from 70 ½ to 72. This is nice and gives you more flexibility for disbursements but only applies to people who reach 70 ½ after 2019. If you turned 70 ½ in 2019 or earlier, you are not affected. But if you will turn 70 ½ in 2020 or later, you won’t need to start taking distributions until age 72. Unchanged from prior law is if you are still working after reaching the RMD age and you don’t own over 5% of the company that sponsors the plan, you can postpone taking RMDs from your company’s plan(s) until after you’ve retired.
No more age restrictions on Traditional IRA contributions
Before the SECURE Act, you could not make any contributions to a Traditional IRA for the year you reached age 70 ½ or any later year. For the 2020 tax year moving forward, the SECURE Act repeals the age restriction on contributions to Traditional IRAs. (There is no age restriction on Roth IRA contributions and the SECURE Act does not change that.)
Stricter rules for Inherited IRAs
The new SECURE Act rules will restrict ‘Stretch IRAs’. The change, effective January 1, 2020, requires most non-spouse IRA and retirement plan beneficiaries to drain inherited accounts within 10 years after the account owner’s death. Accounts inherited by 12/31/2019 are unaffected, but all new accounts inherited after January 1, 2020 fall under the new rules. This can be especially problematic for people in their higher earning years inheriting a traditional IRA or other pretax retirement assets. Now one has to pull a much larger amount out of those plans over just 10 years.
Example: Let’s say you inherited a $300,000 Traditional IRA in 2020 and you wanted to pull the same amount out each year over 10 years, you’d need to withdraw $30,000 which would get added to your 2020 income for tax purposes. Compare that to the rules for IRAs inherited by 12/31/2019. Here the old rules still apply and a 40 year old could use the IRS-defined life expectancy table which would allow them 43.6 years to take out the same $300,000. $300,000 divided by 43.6 years equals only $6,880.73 that needs to be withdrawn in the first year – a much smaller tax hit.
Roth IRA’s still fall under the same above rules. You’ll have to take larger distributions each year compared to the prior law’s life expectancy table, but at least the tax burden will not increase.
There are exceptions to the new SECURE Act RMD rule where certain eligible designated beneficiaries can still take distributions according to the prior rules. Eligible designated beneficiaries are:
- The surviving spouse of the deceased owner
- A minor child of the deceased owner (Though once the child reaches age of majority under applicable state law, they have 10 years to distribute the balance after that date)
- A beneficiary who is no more than 10 years younger than the deceased owner
- A chronically-ill individual (as defined)
Part-time workers can participate in 401(k) plans
Employers have been able to exclude part-time workers from participation in 401(k) plans, but under the new law, people who have worked 1,000 hours in 1 year (about 20 hours a week), or 3 consecutive years of at least 500 hours, will now be able to participate in retirement plans.
Retirement Plan Conversion to a Lifetime Annuity
The SECURE Act creates a safe harbor for employers to offer annuities in their 401(k) plans. The thought is this could allow employees to pick from different annuity companies who will guarantee lifetime income streams once the employee retires. We will need to closely monitor this new option and see how the new features and benefits compare to the new costs associated with such an option. Currently, nothing prevents someone from rolling over some or all of their 401(k) assets into an annuity IRA once they separate service if lifetime income is a goal/need. We’d say the insurance company’s lobbyists won this battle.
Lifetime Income Disclosure for Defined Contribution plans
Employers are now required to disclose to employees the amount of sustainable monthly lifetime income their balance could support in their statements. Many plans we currently see do disclose this number to their employees, but now it will become the norm, not the exception.
Increased Access to retirement plans for Small Business employees
The SECURE Act makes it easier for small businesses to offer retirement plans for its employees by allowing multiple employer plans with fewer liability concerns and less cost. This is helpful because not a lot of small businesses offer retirement savings options so the hope is that more small business employees will be able to take advantage of employer sponsored plans.
Student Loan repayment through 529 Savings Plans
Individuals will be able to withdraw up to $10,000 to make student loan payments. A nice step, but it would be great if there was no cap.
Penalty-free Withdrawals for New Parents
The SECURE Act now allows new parents to take penalty-free distributions from their retirement plans within a year of the birth of a child or adoption to cover related expenses, up to $5,000. Income taxes would still be owed, but at least there would not be a penalty to help cover first year child expenses.
The new SECURE Act is the biggest piece of retirement legislation since the Pension Protection Act of 2006, and these days a rare instance of bipartisan support among lawmakers and the Oval Office. Since everyone’s situation is different, we suggest meeting with your advisor to see how these changes will impact you, answer any of your questions, and to help you best prepare for the future. (At least until the next round of retirement legislation makes its way through Congress!)
Editors Note: This article was originally published in the February 2020 edition of our “Cadence Clips” newsletter.
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