On December 19, 2019, the Setting Every Community Up for Retirement Enhancement Act of 2019, better known as the SECURE Act—which originally passed through the House in the spring—was finally approved by the Senate as part of an end-of-year appropriations act and accompanying tax measure. The new law, signed by President Trump on December 20, is mainly intended to expand opportunities for individuals to increase their retirement savings, and tweaks a number of rules related to tax-advantaged retirement accounts.
Ultimately, the law focuses on retirement planning in three key areas: modifying required minimum distribution (RMD) rules for retirement plans, expanding retirement plan access, and increasing lifetime income options in retirement plans.
The SECURE Act, also known as H.R. 1994, was passed by the House of Representatives in May with overwhelming bipartisan support (the vote was 417-3) but was then held up in the Senate. The legislation eventually passed includes elements of the Retirement Enhancement and Savings Act (RESA), a bipartisan Senate bill.
Among the major changes:
401(k) options
The law makes it easier for small businesses to set up 401(k) accounts by increasing the cap under which they can automatically enroll workers in “safe harbor” retirement plans from 10% of wages to 15%. However, it could be a few years before small-business employees without retirement plans see their employers offer such plans as a result of the SECURE Act. The act allows unrelated small businesses to band together in an “open” multiple-employer plan (MEP) to reduce costs and administrative tasks, but the legislation’s MEP provisions don’t take effect until 2021. Additionally, the U.S. Department of Labor will need to clarify the rules before many small businesses will feel comfortable providing retirement accounts.
The act also provides a maximum tax credit of $500 per year to employers who create a 401(k) plan with automatic enrollment. The employee would have to opt out of the program to not save. This same credit will also apply to employers who set up a Savings Incentive Match Plan for Employees Individual Retirement Account (SIMPLE IRA), a tax-deferred employer-provided retirement plan that allows employees to set aside money and invest it to grow for retirement. As for part-time employees, the act enables businesses to register a 401(k) for employees who work either 1,000 hours throughout the year or have three consecutive years with 500 hours of service.
The SECURE act likewise permits penalty-free withdrawals of $5,000 from 401(k) accounts to defray the costs of having or adopting a child.
It also encourages employers to include annuities as an option in 401(k) plans by reducing their legal liability if the insurer cannot meet its financial obligations. In other words, employers will be protected from being sued if the insurer they choose to make annuity payments doesn’t pay claims in the future. (This could be something of a will need to look extra carefully at these options.)
Retirement options
The new law pushes the age at which retirement plan participants need to take required minimum distribution (RMD) from 70½ to 72. (This requirement applies only to those who are not 70½ by the end of 2019). By pushing back the RMD start date, the SECURE Act adds time to allow IRAs and 401(k)s to grow without being depleted by distributions and taxes.
Because RMDs won’t start until age 72, the new law adds 18 months more for a Roth IRA conversion, rolling over a traditional IRA. With a Roth IRA, unlike a traditional IRA, withdrawals are tax-free so long as you meet certain requirements and you have not started RMD. The general goal of a Roth conversion is to convert taxable money in a traditional IRA into a Roth IRA at lower tax rates today than you expect to pay in the future. Once you start RMD, the Roth IRA conversion process is more difficult.
Before the SECURE Act, you could not make contributions to a traditional IRA for the year you reached age 70½ or any year after. (There’s no age restriction on Roth IRA contributions, and the SECURE Act does not change that.) For tax years beginning after 2019, the SECURE Act repeals the age restriction on contributions to traditional IRAs. So, for tax years beginning in 2020 and beyond, you can make contributions after reaching age 70½. Also, if you plan on working into your 70s, you can still put money into your deductible IRA.
This change means a couple over 70½ will be allowed to save to an IRA over $14,000 in 2020 if both spouses are contributing the maximum of $7,000 a year. This can help them receive a valuable tax deduction and save for the future.
One other key change in the new law is the way it pays for all this: the removal of a provision known as the stretch IRA, which has allowed non-spouses inheriting retirement accounts to stretch out disbursements over their lifetimes. The new rules will require a full payout from the inherited IRA within 10 years of the death of the original account holder, raising an estimated $15.7 billion in additional tax revenue. This will apply only to heirs of account holders who die starting in 2020.
In the past, many people used trusts as beneficiaries of IRAs and 401(k)s with a “pass-through” feature that lets the beneficiary stretch out the tax benefits of the inherited account. The benefit of the trust was, in part, to help manage the inherited retirement account and to provide protections from creditors. However, many of these trusts provided the beneficiary or heir with access to “only the RMD due each year.” But the SECURE Act states that all money must be taken out by the end of year 10 after the death of the owner. Anyone with a trust as the beneficiary of an IRA or employer-sponsored retirement plan such as a 401(k) should immediately review the trust’s language to see if it still aligns with his or her intended goals.
The SECURE Act’s RMD change will not affect accounts inherited by a so-called eligible designated beneficiary. An eligible designated beneficiary can be the surviving spouse of the deceased account owner, a minor child of the deceased account owner, a beneficiary who is no more than 10 years younger than the deceased account owner, or a chronically ill individual (as defined by the act). This SECURE Act change means it’s now very important to review the beneficiary designations of your retirement accounts to make sure they align with the new rules.
Whether the SECURE Act ends up being a game-changer or not remains to be seen. But one thing is abundantly clear: the current rules aren’t allowing nearly enough Americans to put away the nest egg they’ll ultimately need for a solid retirement. Many of these SECURE Act rule changes require proactive planning. So, as always, it is important to speak with a qualified professional about the changes and your financial and retirement situation.
If you have any questions about this article or any other questions, please feel free to contact us at 610-793-1001 or info@bowenasset.com.
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