Congress recently passed, and the President recently signed, a bill called the Setting Every Community Up for Retirement Enhancement Act (SECURE Act). This brings major changes to the retirement landscape that will affect all retirement savers going forward. These are the most sweeping changes to the retirement rules in my entire 13-year career. Let’s walk through the most impactful changes:
1) Changes the age to start required minimum distributions from age 70.5 to age 72
This is good news for those who don’t need to take money from their retirement accounts because they are still working or have other funds they can tap for retirement expenses. This change allows more time to strategically plan for those who retire before 72 and want to take advantage of low tax years by doing Roth conversions. I can also appreciate the starting date no longer being a “half” age, which is incredibly annoying for most people.
This only applies to people turning 70.5 in 2020 or later, meaning if you have already started taking your required distributions you will still need to take them going forward, even if you are not yet 72. Certainly an unfortunate break for anyone who turned 70.5 in 2019.
2) Allows traditional IRA contributions past age 70
This change is finally bringing the traditional IRA up to speed with all of the other retirement accounts available. Roth IRAs, 401ks, 403bs, SEP IRAs and more all allow contributions past age 70 if you qualified. The traditional IRA will finally join this group and that’s good news for those who are still working and looking to save in a tax-deferred manner.
3) Eliminates the stretch IRA for non-spouse beneficiaries
By far the most impactful change in the entire bill, in my opinion, is the death of the stretch IRA. In the past, if you inherited an IRA you could transfer it to an inherited IRA in your own name and take out the required minimum distributions over the course of your life. This allowed tax deferral on the majority of the account and meant inherited IRAs could grow for decades for young beneficiaries.
Now the rules say that for anyone who passes away in 2020 or later, the entire IRA balance must be empty by the end of the 10th year following the death of the original IRA owner. There are several exemptions to this new rule:
- Disabled beneficiaries
- Chronically ill beneficiaries
- Individual who are less than 10 years younger than the original IRA owner
- Certain minor children, but only until they reach the age of majority
This means non-spouse beneficiaries who do not meet the exemptions will have to empty IRAs much faster than they used to. This will generate substantial tax revenue for the government and potentially result in much higher taxes due by the beneficiary. Interestingly enough, required minimum distributions for inherited IRA’s are eliminated with the new law; the only requirement will be that the account must be emptied by the end of the tenth year.
This means tax planning for parents and children will become even more important. Generational tax planning may be the new frontier for those with retirement accounts, as people aim to minimize the impact of this change.
4). Allows 529 distributions for student loan payments
The 529 will finally be able to repay principal and/or interest from qualified education loans. There is a $10,000 lifetime limit on this qualified withdrawal, but it is a per-person limit, so funds could also be used for a beneficiary’s siblings’ student loans. The 529 plan will also allow funds to be used to for expenses related to apprenticeship programs, provided the program is registered with the Department of Labor.
5). Penalty-free IRA withdrawals of up to $5,000 for birth/adoption of a child
This new exception to the early withdrawal penalty will allow each parent to withdraw up to $5,000 from their retirement account per child without penalty. A “new” $5,000 exception is available if another child is born or adopted. The parents have one year to take the distribution, beginning either on the birth date or the finalization of the adoption.
6). Removes fiduciary obligation for retirement plan sponsors who allow annuity options in plans
Traditionally, plan sponsors have avoided adding lifetime income options to 401k plans for fear that if the insurance company ran in to financial problems then participants could take legal action against the sponsor, who has a fiduciary obligation to look out for the participants.
This all changes now as the insurance companies have successfully lobbied a change that provides the plan sponsors a fiduciary safe harbor, meaning they can’t be held responsible for selecting a lifetime income provider that fails. This is a concerning change for those who ultimately select the annuity option if the insurance company does fail. Who will they turn to when their monthly payments stop?
Unfortunately, the insurance industry has shown in the past, mostly via the 403b market, that they don’t always have consumers’ best interests at heart. It remains to be seen how this space will evolve, but the end result surely will be more annuities available through 401k plans.
Over the next few weeks there will be more information that comes out regarding the SECURE Act and the retirement issues it affects. We will continue to study the bill and develop planning strategies to ensure we can help you avoid problems and take advantage of opportunities.
As always, if you have questions feel free to call us at 716-634-6113.
Steven Elwell, CFP®
Partner, Chief Investment Officer