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What You Need to Know About the SECURE Act

Feb 14, 2020 | Estate Planning, Retirement, Tax

Late last year, Congress passed bipartisan tax legislation that President Trump promptly signed into law on December 20, 2019.  The legislation included the “Setting Every Community Up for Retirement Enhancement (SECURE) Act”, which is mainly intended to expand opportunities for individuals to increase their retirement savings.  The awkwardly named Act, which went into effect on January 1, 2020, introduces many significant changes that may affect you, your family, and your estate.  Most of the changes are generally positive for taxpayers, but one provision – pertaining to non-spousal beneficiaries of retirement accounts – could be considered anti-taxpayer to many financially comfortable families.  This article will discuss seven provisions and takeaways pertaining to individuals and retirement in the Act and offer some illustrations of the new rules for inherited retirement accounts.  You should ask your tax and/or financial advisor to review how the points in this article and the other provisions of the legislation are relevant to you.

Required Minimum Distribution (RMD) Age Extended to 72:  Under our old rules, individuals were required to start required minimum distribution (RMDs) from qualified retirement accounts at age 70 ½.  The SECURE Act, delays RMDs from these accounts, such as individual retirement accounts (IRAs), until age 72.  The new starting age applies to individuals who have not reached age 70 ½ by January 1, 2020.  Anyone who reached age 70 ½ by the effective date needs to continue to take their RMD annually using the old rules.  For those individuals subject the new rule and who have other resources to draw upon for the additional 18 months, the delay provides more time for retirement account growth.  Distri­butions from traditional retirement accounts are largely fully taxed (if applicable, there is an exclusion for after-tax and non-deductible contributions) and withdrawals from an investment account may be only partially taxable due the return of capital rule. Long-term capital gains from selling investments are also taxed at preferential tax rates.  Capital losses may be used to offset other gains and up to $3,000 per year of ordinary income.  The RMD delay may generate some short term income tax savings and a temporary escape from Medicare surcharges that are caused when a beneficiary’s income exceeds a Medicare threshold.  As retiree longevity increases, delaying RMDs looks like a constructive strategy for those people with other assets to employ.  Please note an exception:  if you’re still working as an employee after reaching the required beginning date (RBD) and you don’t own over 5% of the company that employs you, you can postpone taking RMDs from your employer’s plan(s) until after you’ve retired.

Age Limit Removed for IRA Contributions:  Starting for tax year 2020, there is no longer an age cap on contributing to traditional IRAs.  Under the old rule, upon reaching age 70 ½-individuals were no longer able to make contri­butions to traditional IRAs.  The SECURE Act aligns traditional IRAs with Roth IRAs.  Now individuals who work and generate qualified earnings (i.e. earnings as an employee, net self-employment income, and taxable alimony) will be permitted to continue saving in retirement accounts.  Under the new law, deductible IRA contributions made after reaching age 70 ½ will reduce the tax benefits of qualified charitable distributions (QCDs).  This concept is explained later in the article.  Please note that the deadline for making your 2019 IRA contribution is April 15, 2020.  If you were 70 ½ or older as of December 31, 2019 you cannot make a 2019 contribution.  However, you can make contri­butions for 2020.

Elimination of the Stretch IRA:  This change is a major “take-back” by our lawmakers and is estimated to raise $15.7 billion over the next 10 years in federal tax revenues. The rules for RMDs are a bit complicated and the regulations for RMDs from inherited IRAs are more intricate and beyond the scope of this article.  Briefly, the RMD rules for inherited retirement accounts depend upon the nature of the beneficiary:  spouse, non-spouse, non-person (i.e. an estate, trust, charity, or business), the age of the owner, the age of the beneficiary, and whether or not the owner of the retirement account passed away before or after reaching the required beginning date (RBD), age 70 1/2.  Under the SECURE Act, the rules for bene­ficiaries who are the spouses of the deceased owners are the same as prior law.  Surviving spouses can either treat the account as their own by a rollover into their own IRA or a retitling of the account.  Spouses can: 1. Treat the account as their own and follow the RMDs for an owner of an account, or 2. Distribute the account using their own life expectancy or choose to use the remaining life expectancy of the deceased if it was longer than their own life expectancy.  The monumental change brought about by the new law pertains to non-spouse beneficiaries.  Under the old rules, a non-spouse could stretch RMDs over their own life-expectancy or that of the deceased owner if the deceased was younger.  For a typically-aged child inheriting an IRA from a deceased parent, the withdrawal period could be 20 to 25 years or longer.  For a typically-aged grandchild inheriting an IRA from a grandparent, the withdrawal period could be 40 to 45 years or longer.  (Please note that the withdrawal period under the old law could be shorter if the beneficiary is older.)  The bottom-line is that in most cases the time horizon for withdrawing an inherited IRA for a non-spouse has been significantly reduced.  Under the SECURE Act, non-spouse beneficiaries must withdraw all of the assets of a retirement account within 10 years of the account owner’s death.  This means that a younger beneficiary needs to take the funds out in a much shorter period of time and pay taxes during a period that is possibly their highest earning and highest tax bracket years.  There are exceptions to the ten-year rule for a surviving spouses, minor children, chronically ill individuals, disabled persons, and anyone not more than 10 years younger than the account owner.  The new rule applies to retirement accounts inherited on or after January 1, 2020.

The pre-SECURE Act rules for RMDs permitted people to keep the inherited account open for many years and to realize the tax advantages over those many years. With an IRA, this is called the “Stretch IRA” strategy. The Stretch IRA strategy is particularly advantageous for inherited Roth IRAs, because the income those accounts produce can grow and be withdrawn tax-free. Under the pre-SECURE Act rules, a Stretch Roth IRA gave some protection from future income tax rate increases for many years.  The changes to the Stretch-IRA rules are a good reason for you to review your estate plans soon.  This is especially true if you’ve set up a “conduit” or “pass-through” trust as the beneficiary of what you intended to be a Stretch IRA for your heirs.

Please note that some examples of the new rules for inherited IRAs will be provided before the conclusion of this article.

Student Loan Repayment through 529 Plans:  Under the SECURE Act, individuals can withdraw up to $10,000 per year from 529 Plans to make student loan payments.  This provision enhances the flexibility for parents, grand­parents, and friends (non-parent 529 Plan owners) in managing college costs, financial aid considerations, and student motivation.

Payments from 529 Plans owned by grandparents and friends during the first two years of college can reduce a student’s financial aid.  The new rule permits the use of 529 assets to pay off student debt; this could be a benefit for those who have accumulated large amounts of funds in a 529 Plan. Parents may want the student to be responsible for a portion of their education costs for motivational reasons.  If the student incurs debt while attending college, the parents can opt after graduation to help pay for these debts from assets remaining in the 529 Plans.

Here are some points on financial aid:  A 529 Plan owned by a grandparent doesn’t get reported on the FAFSA, Free Application for Federal Financial Student Aid. Once money is withdrawn from a grandparent-owed 529 and used to pay for college expenses, it’s considered income to the student, and it must be reported on the FAFSA. So a 529 plan owned by a grandparent or other third party will not be reported as an asset on the FAFSA. However, qualified distributions from such a 529 plan are treated as untaxed income to the beneficiary on the subsequent year’s FAFSA, potentially impacting eligibility for need-based financial aid.  Student assets will reduce aid eligibility by 20% of the asset value (minus a small asset protection allowance) and parental assets will reduce aid eligibility by as much as 5.64% of the asset value. However, student income, including untaxed income, will reduce aid eligibility by 50% of the distribution amount (minus a small income protection allowance).  There are some strategies that can mitigate this potential impact of non-parent owned 529 Plans such as changing account owner to the parent (watch out for possible state income tax recapture), rollover a year’s worth of funds to a parent-owned plan after the FAFSA has been filed, use the assets from the non-parent 529 Plan later in the student’s academic career after the last FAFSA has been filed (generally in the last two years of undergraduate studies).  The SECURE Act now provides another strategy:  use the funds to pay student debt post-graduation.  Again, financial aid is complicated and you should seek qualified advice.

Penalty-free Withdrawals for New Parents:  We know that often there are unex­pected first-year child costs.  The SECURE Act allows parents to withdraw up to $5,000 from a retirement account in the year of birth or adoption and avoid the 10% early withdrawal penalty.  Unfortunately, the new parents will need to pay income taxes on the withdrawn funds.

Lifetime Income Disclosure for Defined Contributions Plans:  This provision of the SECURE Act is considered noteworthy because it will provide educational information that may encourage workers to take better control of their retirement planning and perhaps talk with an advisor regarding available options.  Employers are now required to disclose to employees the amount of sustainable monthly income their balance in the 401(k) accounts could support in their retirement years.

Qualified Charitable Distributions:  Under the pre-SECURE Act rules, a taxpayer, after reaching the RMD age of 70 1/2, was permitted to make charitable contributions — called qualified charitable distributions (QCDs) — of up to $100,000 per year directly from IRAs.  QCDs are a tax-efficient way to make charitable contributions in that they reduce taxable income and lower the benchmark (modified adjusted gross income (MAGI) used to determine Medicare surcharges.  Under the Trump Tax Law changes effective in 2018, a great many of us elected to use the standard deduction instead of itemizing our deductions, which effectively meant that we no longer received a tax deduction for charitable contributions.

The change of more taxpayers using the standard deduction is a result of the doubling of the standard deduction, elimination of several key itemized deductions (such as miscellaneous deductions), the new limitations bestowed on the deduction for state and local taxes (generally a big forfeiture for NJ residents), and new restrictions for the mortgage interest deduction.

As noted earlier, the SECURE Act changed the RMD age to 72, but you are still allowed to make QCDs beginning when you reach age 70 ½.  However, the SECURE Act incorporated what is called an “anti-abuse rule” to avoid a double benefit for QCDs.  The double tax benefit comes about when someone after age 70 ½ makes a deductible IRA contribution and then makes a QCD for the same amount – both would lower taxable income.  The QCD anti-abuse rule requires that when you make a distribution to a charity from your IRA, you must include in income any post-age-70 ½ deducted contributions to an IRA.  Once any post-age-70 ½ deducted contributions have been offset from attempted QCDs, you will be able to treat the excess as a QCD, deductible from income to arrive at adjusted gross income.  In other words, deductible IRA contributions made for the year you reach age 70 1/2 and later years reduce your annual QCD allowance.  For example, in 2020 Jack earned wages of $40,000 and deducted an IRA contribution after reaching age 70 ½ of $7,000.  He was a good saver during his life and he accumulated a respectable balance in his IRA.  Jack directs the fiduciary of his IRA to distribute $10,000 to a qualified charity.  In this case, $7,000 of the distribution would be disallowed as a QCD deduction because of the anti-abuse rule and $3,000 would be allowed.  If Jack itemizes his deductions, he could deduct the $7,000 QCD disallowed amount as a charitable deduction.  Keeping track of the QCD limitations will be an additional bookkeeping chore.  Please note:  QCDs are not deductible for New Jersey Income Tax Returns.

Examples of the New Rules for Inherited IRAs:

Example 1: Harry dies in 2020 and leaves his IRA to designated beneficiary Sally, his sister, who was born six years after Harry. Sally is an eligible designated beneficiary. Therefore, the balance in the inherited IRA can be paid out over her life expectancy because Sally is not more than 10 years younger than the account owner.  If Sally dies before the account is exhausted, the remaining balance must be paid out within 10 years after her death.

Example 2: Susan dies in 2020 and leaves her IRA to designated beneficiary Bob, her brother, who was born 14 years after Susan. Bob is not an eligible designated beneficiary because he is more than 10 years younger than Susan. The balance in the inherited IRA must be paid out within 10 years after Susan’s death.

Example 3: Harold dies in 2020 at age 86. He leaves his $2 million Roth IRA to his 36-year-old spouse Sandy. Since Sandy is an eligible designated beneficiary, the new 10-year rule does not apply to her. As a surviving spouse, she can retitle or rollover the inherited Roth account in her own name. Then she will not have to take any RMDs for as long as she lives. So, this is a situation where the Stretch IRA strategy still works well.  If this was a traditional IRA, Sandy would need to commence RMDs upon reaching age 72, or whatever the law requires in the future.

Example 4: Ollie dies on Dec. 10, 2019. He left his IRA to designated beneficiary Nancy, his beloved niece, who is 32 years younger than Ollie. Because Ollie died before 2020, the balance in the inherited IRA can be paid out over Nancy’s life expectancy under the pre-SECURE Act RMD rules. If Nancy dies on or after 1/1/20, the balance in the IRA must be paid out to her designated beneficiary or beneficiaries or the heir(s) who inherit the account within 10 years after Nancy’s death.


As our longevity increases delaying RMDs sounds like a prudent legislative modification.  Likewise, removing the age limit for traditional IRA contributions is good news for people who continue to work past age 70 ½.  The elimination of the stretch aspect of IRAs for non-spouse beneficiaries is bad news for those who don’t like to pay taxes.  The change for non-spouse inherited IRAs is an excellent reason for you to review your estate plan with your advisors to avoid something unintended.  You may want to contemplate options when designating beneficiaries for your retirement accounts and give some consideration to estate planning ideas such as including life insurance to provide tax-free assets to beneficiaries, a charitable trust to salvage the stretch feature, and Roth conversions for a tax-free income.  With college costs increasing at twice the normal inflation rate, expanding and leveraging the use of 529 plan assets to pay for education debts is an exceptional provision of the new law.  The change makes 529 plans a more valuable resource.  Two more positive modifications are the elimination of the penalty for IRA withdrawals made by new parents and the reporting of sustainable retirement cash flows from balances in a 401(k).  Continuation of the current age limit for QCDs is good step.  If you have charitable intentions and you are age 70 ½, you should consider QCDs as a way to make your charitable contributions, bearing in mind the impact of deductible IRAs made after reaching age 70 ½.  Your financial advisor and/or the fiduciary for your IRA can assist with the procedures.  If you make QCDs, make sure that you advise your tax preparer because the Form 1099R reporting does not disclose QCDs.  Good luck navigating the tax law changes; this was another year for an 11th hour revision.  The SECURE Act contains many more important aspects that you may want to explore.  Don’t be surprised if we see more tax law changes that impact our retirement planning in the future.  There are several provisions that are currently on the “chopping block”.

This article contributed by Francis C. Thomas CPA/PFS.

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