This is the last of our four-part series: 2020 Legislative Changes to Retirement Plans. Just about two months ago, on December 20, 2019 President Trump signed the Setting Every Community Up for Retirement Enhancement Act (SECURE Act) approved by the Senate the day before and previously passed by the House in July 2019. It has been said this is the biggest bill hitting retirement planning since the Pension Protection Act of 2006. There’s really nothing new in it but it has created six substantial changes.
REINFORCING THE BASICS!
Like most legislation the goals of which are to expand, improve, and simplify, the primary goals of the SECURE Act are to expand retirement savings, improve plan administration, simplify existing rules, and preserve retirement income.
1. New Penalty-free Withdrawals for New Parents with New Kids. A couple of weeks back, Individual Retirement Accounts in 2020, listed exceptions to early withdrawal of IRA funds. The Secure Act adds one: $5,000 tax free withdrawal for a new kid, whether by birth or adoption. This is $5,000 per kid and per parent (if both parents have an IRA) withdrawn within one year of birth. Five grand will buy a lot of diapers and wine.
2. Eligibility for Part-time Workers. Part-time Just Became Even More Part-time. This is good for employees 18 and older. It is easier to be eligible now as the required number of hours worked has decreased from 1,000 to 500. An employee must have worked at least 500 hours for the previous three consecutive years and be age 21 at the end of those three years. The count to 500 starts in 2021 making age 24 the first year of eligibility under the legislative change.
3. Eliminated Age Limitations on Contributing to IRAs. Betty White can be eligible again! You can contribute even after you are older than dirt as long as you still have a job. Betty White’s new job should be Hip Hop Squares. She is hilarious and of course was on the squares that started it all – Hollywood.
This is really good for the AARP crowd because people are working longer and this will have a positive impact on retirement savings. Even better, you only have to work as little as 500 hours a year or about 9 hours and 40 minutes a week. (see #2 above). This change now matches IRAs with 401 (K)s and Roths. Keep in mind there are still the other factors such as income, filing status, and eligible compensation.
4. Eligible Compensation Expanded. Some PhD and grad student income to include stipends and fellowships now count as eligible compensation (earned income) for IRA contribution purposes. Home health care workers who get paid with “difficulty of care” payments very deservedly catch a break. Because difficulty of care payments are not taxable, they are not eligible compensation. Difficulty of care payments remain nontaxable but are now considered eligible compensation for IRA and other plan contributions.
5. Increased Minimum Distribution Age. If you weren’t 70.5 by December 31,2019 you now don’t have to take RMDs from Traditional IRAs, 403(b)s, 457(b)s, and any defined contribution plan until age 72. This is pretty good because your earnings can grow a little bit more and you save taxes on 18 months of required minimum distributions.
6. Inherited IRAs. Bye-bye “Stretch” Provisions. This is some bad news for inheriting sizable IRAs. And for inheriting while you are in your peak earning years. The old stretch is the new shrink! In the past, a non-spouse beneficiary of an IRA or defined contribution plan like a 401(k) could stretch out RMDs from the plan over their own life expectancy. The strategy was to pass IRAs to younger Family members because the RMD would be lower, leaving more funds in the account to continue growing.
However, starting on Jan. 1, 2020, there are no more RMDs for an inherited Traditional or Roth IRA and a beneficiary (with exceptions) other than a spouse will have only 10 years, and not forever, after the year of death to empty the entire retirement account.
“Except for’ beneficiaries from the 10-year shrink provisions are: surviving spouses; minor children up until the age of majority; individuals within 10 years of age of the deceased; and, those who are chronically ill or disabled. You are also exempt if you are a current beneficiary already taking RMDs on January 1, 2020.
This is bad news for quite a few very big reasons. The shorter timeline will increase annual distribution amounts thereby possibly increasing tax liability in any or all of those 10 tax years. A range of breaks and benefits, not just from the IRS, could be adversely affected. It obliterates compound tax deferral. And it creates an immediate need for some sort of alternative tax strategy.
Potential Tax Strategies for The New Shrink. As usual the first go to strategy for consideration is Roth Conversions. Typically, inherited Roth IRAs are subject to RMDs but without any taxable events. The TCJA’s lower tax rates still make it super sensible to convert before retiring or dying. Converting can help maximize overall wealth, lower taxes, and save your heirs from the pitfalls of the new shrink.
Qualified Charitable Contributions will remain an effective and generous way to reduce RMDs and overall account balance as will the $15,000 annual gift exclusion. Non-spouses are still without the option of a “rollover” so a specifically planned trustee to trustee transfer may help.
An inherited IRA will no longer provide lifetime income for a beneficiary. If this is the intent, one possible alternative could be a charitable remainder trust.
WRAPPING IT UP.
Who makes out the best? The Government! The SECURE Act alone is estimated to reap $1,570,000,000 a year for the next 10 years. To put that in a weekly amount – $30,192,307.69.
WHAT ELSE DO I NEED TO KNOW?
• We strongly advise you to consult with your financial and estate planning advisors and attorneys. Secure your retirement plans now.
• Review beneficiary designations. Secure your retirement plans now.
• Review trusts that are beneficiaries of an IRA or 401K. Secure your retirement plans now.
• The SECURE Act requires 401(k) plan administrators to provide annual “lifetime income disclosure statements” to plan participants. These statements will show how much money you could get each month if your total 401(k) account balance were used to purchase an annuity. Secure your retirement plans now.
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This is the last of our four-part series, but we’ll blog about something else next week. In the meantime be sure to check us out on Facebook and Twitter; for whatever it is we’ll be posting.
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