The Setting Every Community Up for Retirement Enhancement Act of 2019, also known as the SECURE Act, completed its passage through Congress on December 19th, 2019. Most changes went into effect after December 31st, 2019. Following is a summation of the changes we found to be most relevant to our wealth management and qualified plan clients.
Increase in Required Minimum Distribution (RMD) Age to 72
Previously, RMDs needed to be taken starting in the year you turned 70.5 with a few exceptions. This has been changed to be the year you turn 72 and only affects individuals who turn 70.5 after December 31st, 2019.
We see this as a positive. A later beginning RMD date means increased opportunity for tax-deferred growth. Please watch my video on additional ways to delay and/or decrease your RMD. And remember, if you inherit an IRA from someone who is not your spouse, different RMD rules apply (see below for additional changes governing stretch IRAs).
Limitations to Stretch IRAs
Previously, when an individual inherited a retirement account (401(k), IRA, etc.) from a non-spouse, RMDs would need to begin the year following the original account owner’s death. The RMDs were based on the beneficiary’s life expectancy and would be distributed over the course of their lifetime. This allowed assets to stay in a tax-deferred or tax-free environment for many years after the original account holder’s death.
The new rule requires that the Inherited IRA (whether it’s Roth or Traditional) be distributed within 10 years of the original account holder’s death. There are multiple exceptions to this rule such as the beneficiary being the decedent’s spouse, a minor child, or a non-spouse not more than 10 years younger than the original account owner. Consult your CPA to get an exhaustive list of exceptions.
We see this as a negative change. It limits the legacy planning opportunities for individuals, particularly for individuals with large tax-deferred retirement accounts. Inheriting a large retirement account from a parent during one’s prime working years could have a substantial negative tax impact. It also limits the tax-free growth of Inherited Roth accounts as they will be governed by the same rule changes. You should discuss potential planning strategies with a CFP® professional and your CPA.
Repeal of Maximum Age for Traditional IRA Contributions
Previously, if you continued to work after age 70.5 and did not have access to a retirement plan through your employer, you were not able to make contributions to a Traditional IRA. This age cap has been removed. As long as you have earned income and meet the other criteria for making tax-deferred contributions to a Traditional IRA, you can do so.
Anything that increases the options for individuals to save for their retirement is a good thing.
Fiduciary Safe Harbor for Selection of Lifetime Income Provider
Don’t worry if that list of words leaves you scratching your head. However, this change could have a meaningful impact on both trustees and participants of qualified plans (401(k)s, Profit Sharing Plans, etc.).
Trustees of an employer-sponsored plan have something called a fiduciary duty. They are responsible for choosing appropriate investments for the plan as well as acting in the plan participants’ best interest. Because of this responsibility, trustees often outsource the fiduciary responsibility by hiring someone like Whelan Financial (a Registered Investment Advisor) to function as a fiduciary for the plan’s investments.
The trustees can now elect to use insurance companies to satisfy their fiduciary duty. Insurance companies sell annuities, which generally have higher expenses than other investment types. While having a lifetime income option might sound like a good thing, converting your retirement savings to an income stream can severely limit your liquidity. And unlike social security, there are no cost of living adjustments, so the amount you receive will feel like less and less as inflation creeps in to reduce your purchasing power. If you are considering annuitizing your retirement account (converting it to an income stream), we strongly suggest you contact a CFP® to measure it against your other options. With professional asset management, taking a lump sum often ends up being the better option. This change was definitely a win for insurance companies.
529 Plan Changes
Relatively recently 529 plans expanded their list of qualified education expenses to include tuition related to private elementary school and secondary school education. The SECURE Act further expands the permitted use of 529 assets to include apprenticeship programs and student loan debt (principal and interest up to a total of $10,000).
Expanding the list of qualified education expenses is a good change and can only serve to reduce the possibility of having to make non-qualified withdrawals.
Penalty-Free Withdrawals from Retirement Plans for individuals in case of Birth of Child or Adoption
IRA owners and plan participants will now be able to withdraw up to $5,000 from their retirement account penalty-free within one year of giving birth or adopting a child. Each parent can elect to do this for a total of $10,000, however, remember that the distribution(s) would still be 100% taxable if withdrawn from a Traditional IRA or 401(k). The rule change allows for a repayment of the distribution back into the retirement account.
While providing an additional way to get money out of a retirement account penalty-free is a benefit, ideally you will never be in a situation where you’re forced to do it. We like to see retirement asset used for retirement.
Increased Penalties for Failing to File Retirement Plan Returns
This change is important for employers and trustees of qualified retirement plans to understand due to the severity of the changes. All penalties are increasing tenfold. Instead of being charged up to $25/day with a maximum charge of $15,000 for not filing your Form 5500, you can be charged up to $250/day up to a maximum of $150,000. Similar increases were made for failing to file Form 8955-SSA and failing to provide income tax withholding notices.
This change is not necessarily good or bad, but it stresses the importance of getting your tax documents filed in a timely manner.
Kiddie Tax Application Change
Legislation in 2017 required unearned income from children to use trust and estate tax brackets instead of the child’s parent’s tax bracket. This ended up causing scholarships, grants, military survivor’s benefits and investment income to be charged at very high tax rates, even if the child’s family were not high income earners. The SECURE Act is reverting the tax treatment back to the way it was; the unearned income will be taxed at the parent’s tax rate. Note that this change is made retroactively (for income after December 31st, 2017), so families whose children received sizeable scholarships or grants should contact their CPA to determine whether an amended return is appropriate.
While it would be nice to have even kinder tax treatment for unearned child income, this retroactive change is a step in the right direction.
ABOUT THE AUTHOR
Stephen C. Detweiler is a CERTIFIED FINANCIAL PLANNER™ Practitioner and Wealth Advisor at Whelan Financial. With a background in mathematics, Stephen’s analytical mind has earned him respect from both clients and peers alike. He is integral in providing research in the areas of investment and financial planning.
Follow him on LinkedIn @StephenDetweiler
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