How the SECURE Act Impacts Your Retirement Savings

The Setting Every Community Up for Retirement Enhancement (SECURE) Act is the most significant legislation impacting retirement savings in nearly a decade and a half.  We will forgive you if you missed the headline though, given that the bill was signed into law just days before Christmas and it was tucked into a 1,700 page appropriations act.  Also, if you’re a PFS client, paying attention to retirement legislation is what you have us for!  A few of the provisions are likely to impact many— if not, most— of our clients, so we give an overview of those significant changes below.  

Age for Required Minimum Distributions (RMDs).  Prior to the SECURE Act, retirees had to begin taking RMDs from their IRAs and other qualified retirement accounts (e.g. 401(k) and 403(b) accounts) starting at age 70 1/2.  Now, RMDs will not be required until age 72.  Those who turned 70 1/2 before the end of 2019 will have to continue taking RMDs each year, but those who turn 70 1/2 in 2020 and beyond will be able to wait until age 72.  The majority of Americans withdraw more than the Required Minimum Distribution from their retirement accounts each year and begin withdrawals prior to their 70s, so this only impacts the subset of retirees who have sufficient income and/or other assets to defer taking withdrawals from their retirement accounts until it is required by law.

Implications.  For those who can afford to wait until RMD age to take withdrawals, this is a positive change.  They will benefit from 1 to 2 more calendar years of deferring taxes on their retirement accounts.  Also, if they are in a low tax bracket prior to taking RMDs, they have 1 to 2 additional years of tax planning opportunities, e.g. to do Roth conversions, sell assets in a taxable account at a zero percent capital gains rate, and/or take smaller withdrawals from their retirement accounts at a lower marginal tax rate.

RMDs for Inherited IRAs.  Prior to the SECURE Act, beneficiaries who inherited an IRA from a family member or other deceased loved one were only required to withdraw a portion of the account each year based on their life expectancy (a Required Minimum Distribution, similar to those for retirees but based on a different life expectancy table).  They could allow the account to continue to grow tax-deferred (i.e. “stretch” the IRA’s tax-deferred status) throughout their lifetimes, which is why those inherited IRAs were sometimes called “stretch IRAs.”  For IRAs inherited from persons who passed away prior to January 1, 2020, this “stretch” provision is still available to beneficiaries.  For those who pass away after January 1, 2020, non-spouse beneficiaries will be required to withdraw the full amount of the account within 10 years. (Beneficiaries do not need to spend all of the assets within 10 years, but they do need to take them out of the inherited IRA— and pay income tax on the withdrawals.) This new rule does not apply, however, if the beneficiary is:  the deceased person’s surviving spouse, a minor child, disabled, chronically ill, or less than 10 years younger than the deceased. 

Implications.  Financial advisers generally view this change as a negative for beneficiaries.  Depending on the size of the account, having to withdraw the full amount of an inherited IRA in 10 years could push the beneficiary into a higher marginal tax bracket, meaning that they have to pay more income taxes and do so sooner under the new rules.  Again, the change does provide planning opportunities though.  Beneficiaries do not have to take withdrawals every year, so it may make sense to bunch withdrawals within the 10-year window.  Additionally, if a beneficiary’s income is expected to drop (e.g. because of retirement) or tax brackets are expected to change within that timeframe, withdrawals can be timed to take advantage of years when the beneficiary is in a relatively low tax bracket.  

This new provision has a number of estate planning ramifications.  Some advisers suggest that it may cause problems with respect to trusts that include language authorizing only the distribution of RMDs to the trust beneficiaries.  Others suggest that, as a result, spouses may consider naming their children as direct beneficiaries of retirement accounts (rather than each other) if the surviving spouse would not need that asset because it spreads out the children’s inheritance, potentially over 20 years instead of 10 years.  If you have RMD language in an existing trust or are concerned with the estate planning ramifications of this new law in other ways, please contact us to discuss your options.

Additional Changes.  There are many other provisions in the SECURE Act that impact retirement savings, but most are only relevant to a very small subset of Americans.  Below are a few of the additional changes established by the SECURE Act that will likely impact at least a handful of our clients:

• No Age Limit for Traditional IRA Contributions.  Previously, you could not contribute to a traditional IRA past age 70 1/2.  Under the new law, there is no age limit for traditional IRA contributions, provided that you or your spouse have earned income greater than or equal to the amount of the IRA contribution.  For those continuing to work past age 70 1/2, this opens the door for tax-deductible IRA contributions or backdoor Roth contributions (by doing Roth conversions on after-tax contributions to a traditional IRA).
• New Exception to Early Withdrawal Penalty.  Currently, there are a few reasons for which you can take withdrawals from an IRA prior to age 59 1/2 without an early withdrawal penalty, such as buying a first home or paying for kids’ college expenses.  The SECURE Act adds a new exception— the birth or adoption of a child.  Individuals may withdraw up to $5,000 from an eligible retirement plan in the year following the birth or adoption of a child without penalty (though they will still have to pay income tax on the withdrawal).
• Use of 529 Accounts Expanded.  Distributions from 529 accounts can now be used (without tax or penalty) to pay for registered apprenticeship programs and for up to $10,000 of principal or interest on qualified student loans for a beneficiary or his/her sibling.  Given the state tax deduction in many states for 529 contributions, graduates could potentially benefit by contributing funds to a 529 account, even for a short period of time, and then using the funds to pay off student loan debt.

We will continue to consider how these provisions affect each of our clients and what planning opportunities may arise as a result.  If you have any questions about specific implications, please do not hesitate to contact us.