Most of you have likely seen the news about the $1.7 trillion omnibus spending package passed by Congress just before Christmas and signed by President Biden last Thursday night. Interestingly, amid the 4,000+ pages of this legislation, Congress buried a number of significant changes to the rules surrounding retirement plans, known in the industry as SECURE Act 2.0. While reading those 4,000+ pages is no doubt on everyone’s short list for New Year’s resolutions, we summarize most of the key provisions on the retirement plan changes here, focusing especially on those most likely to impact our clients.
Unlike the first SECURE Act, passed in 2019, the recent legislation does not include any significant provisions that most investors or advisors will take as “bad news.” While the elimination of the stretch provision for IRA beneficiaries generated some enemies for the original SECURE Act, many of the key provisions in SECURE 2.0 involve deferring taxes longer, expanding access to retirement account savings, and increasing use of Roth retirement accounts, which have generally had a positive reception across the industry.
BROAD IMPACT
All clients born after 1950: The provision likely to impact the greatest number of our clients is the new starting age for required minimum distributions (RMDs). The starting age for RMDs from IRAs, 401ks, and other retirement accounts will increase from age 72 to age 73, beginning on January 1, 2023. It is scheduled to increase again to age 75 in 2033. Of course, for those who need to withdraw funds from their retirement accounts for living expenses prior to RMD age, the change in RMD starting age may not make any difference. For those who can rely on other income or non-retirement assets though and wish to defer taxes on their retirement account withdrawals for as long as possible, this is good news. (Note: the new legislation does not change the age at which individuals are allowed to make Qualified Charitable Distributions, or QCDs, from their IRAs, which remains age 70 ½. And, in fact, it links the maximum annual QCD amount to inflation, so it will increase from $100k with inflation starting in 2024.)
High income clients over age 50: For high income employees (earning wages over $145k from the same employer in the previous calendar year), any catch-up contributions to 401k, 403b, or 457b accounts must be made to the Roth version of their respective retirement plan. If a Roth version of an employee’s retirement plan is not available, then no one will be allowed to make any type of catch-up contributions to that plan. Employers, therefore, have strong incentive to set up a Roth option for their retirement plans if one does not already exist.
On a related note, while IRA contribution limits have been indexed to inflation for the past couple decades, IRA catch-up contributions (for those over age 50) have not. Starting in 2024, however, the IRA catch-up contribution limit will automatically adjust for inflation.
In addition, starting in 2025, employees closer to retirement (age 60 through 63) will be eligible to make additional contributions to their retirement accounts to boost retirement savings. Using 2023 catch-up limits as an example, instead of the regular $7,500 contribution available for employees over age 50, those ages 60 through 63 would be able to save 150% of the regular catch-up amount, or $11,250.
MEDIUM IMPACT
Clients participating in new retirement plans: New 401(k) and 403(b) plans will need to automatically enroll employees into the plan, deferring at least 3% (no more than 10%) of their salaries into the retirement account and increasing the contribution amount by 1% per year until they reach at least 10% (no more than 15%) of salary. Employees can opt out of the automatic enrollment and the annual increases, but this provision is very likely to increase the number of Americans saving for retirement and the amount that they save. Small businesses (with no more than 10 employees) and new businesses (less than 3 years old) as well as church and government retirement plans are not required to implement these changes.
Clients with a younger spouse who passes away: Starting in 2024, a surviving spouse who inherits an IRA can elect to be treated as the deceased spouse for the purposes of RMDs from that account. In other words, they do not have to start taking RMDs until the deceased spouse would have, and they can use the decedent’s age and the Uniform Lifetime table to calculate RMDs instead of using the Single Lifetime table for beneficiaries, which will result in a lower RMD amount for the surviving spouse. These changes will be particularly useful if the deceased spouse was younger than the surviving spouse.
Clients with student loans: Starting in 2024, employers can match employees’ student loan payments with contributions to their retirement plan accounts. Vesting and matching timeframes for the employer contributions will be identical to those for employees’ elective retirement plan contributions. This is a major boost for clients who want to be saving more for retirement but cannot defer much to their employer retirement accounts given their need to pay down student loans.
Clients with “extra” 529 assets: Starting in 2024, savings in 529 accounts that is no longer needed for education expenses can be rolled over into a Roth IRA without penalty, as long as:
The 529-to-Roth-IRA transfers will not be subject to the same income limitations as direct Roth IRA contributions currently are, and Congress appears to have indicated that one can change the beneficiary of the 529 account without triggering a new 15-year waiting period. Therefore, parents could change the beneficiary designation from their children to themselves if they “over-saved” for college expenses. Alternatively, they could transfer the funds to a Roth IRA in their child’s name, but the child would need to have earned income in the relevant year, just like normal Roth IRA contributions under current rules.
Clients who are fans of Roth accounts: In addition to the 529 provision above, this legislation holds lots of good news for those who like the idea of Roth accounts, i.e. paying tax now in order to move assets into Roth accounts that will (as long as the rules of the game stay the same) grow tax-free and be withdrawn tax-free down the road.
First, the new legislation does not include any limitations for backdoor Roth conversions or any new limits on eligibility for making regular Roth conversions.
Second, beginning in 2024, balances in employer Roth plans, such as Roth 401k or Roth 403b accounts, will no longer be subject to RMDs (similar to current rules for Roth IRAs).
Third, starting in 2023, employers can create Roth versions of SEP and SIMPLE IRA accounts. The amount contributed to a SEP or SIMPLE Roth IRA will be included in the employee’s taxable income though, so it is essentially no different than doing annual Roth conversions from a pre-tax SEP or SIMPLE IRA.
Fourth, employers will be allowed to make matching or non-elective contributions to employees’ Roth retirement accounts. Again, the amount of the contribution will be included in the employee’s taxable income for that year though. It also must not be subject to a vesting schedule.
Clients needing to tap savings for emergency / hardship withdrawals: Retirement plan participants can make one withdrawal per year (up to $1,000) from their retirement accounts without any early withdrawal penalty. They can repay the amount within 3 years (if desired) to avoid income tax on the withdrawal. If not repaid (or if they have not since made regular contributions totaling at least that amount), the employee will not be allowed to make a similar withdrawal within a 3-year timeframe. Additional provisions allow more significant penalty-free withdrawals for survivors of natural disasters, those who are terminally ill, survivors of domestic abuse, and those paying long-term care insurance premiums for themselves and/or their spouse. Survivors of natural disasters can also now take larger loans from retirement plans—up to 100% of the plan balance, up to a maximum of $100k.
Starting in 2024, employers can also offer an emergency savings account linked to employees’ retirement accounts, which would allow up to four penalty-free withdrawals per year. Employees can contribute up to $2,500 (in total) to this emergency savings account. Those who are ineligible to participate in the employer’s retirement plan and/or are highly compensated (earned more than $135k the previous year) may not establish an emergency savings account. The balance in the account must be held in cash or other conservative interest-bearing assets, and distributions will be tax- and penalty-free. Linking the savings to the employee’s retirement account, however, means that contributions to the emergency savings will still be eligible for employer matching contributions to the employee’s retirement account.
LIMITED IMPACT
Low-income clients saving for retirement: Starting in 2027, low-income workers who save for retirement may be eligible for a 50% tax credit on retirement contributions up to $2,000. Full time students and dependents, however, are not eligible for the credit.
Those who mistakenly withdraw less than their RMD: Starting in 2023, the penalty for missed RMDs decreases from 50% of the shortfall to 25%, and if the mistake is corrected within a given window, the penalty decreases further to 10%. (The window is generally from January 1st of the year following the missed RMD to when a Notice of Deficiency is mailed or the tax is assessed by the IRS.)
For those still reading, you may find it hard to believe that there are many other retirement plan provisions included in the new legislation beyond those mentioned here. But it’s true! Especially for those who are small business owners or public service employees, you may be impacted by additional changes beyond the scope of this article. Please feel free to contact us with any questions or if you would like to discuss how any of the changes impact you.
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