The SECURE Act
The start of a new decade brought new changes in federal tax law. The Setting Every Community Up for Retirement Enhancement Act of 2019 (“SECURE”) makes several significant changes to individual retirement accounts (“IRAs”) and retirement plans and how they must be treated after the death of the retirement account owner.
While some changes are favorable and accommodate trends reflecting an increase in individuals staying in the workforce, retiring later, and, with respect to the expanded use of 529 Plans, facing educational debt, the most significant change brought about by SECURE results in a shorter period by which distributions from an inherited IRA must be made. This change may have significant impact on an individual’s retirement planning.
The following is a brief overview of the most significant changes resulting from the SECURE Act:
1) Elimination of the maximum contribution age. Under prior law, the maximum age at which a person could contribute to his or her traditional IRA was 70 ½. SECURE eliminates the maximum age for such contributions for those individuals with earned income and for contributions to qualified plans.
2) Required minimum distribution age increase.Under prior law, the age to begin taking the annual required minimum distribution (“RMD”) from a retirement plan was 70 ½.SECURE postpones RMDs from age 70 ½ to age 72.
3) Expanded use of 529 Plans.A 529 Plan is a tax advantaged plan that is used to cover the expenses of a designated beneficiary attending a K-12 and/or post-secondary institution. Generally, when the distributions for such qualified expenses are made for the beneficiary they are not taxed.
SECURE expands the definition of qualified higher education to include certain apprenticeship programs. SECURE also created the ability to use a 529 Plan to repay student loans as a qualified expense. The distribution for payment of student loan debt has a lifetime aggregate limit of $10,000 per 529 plan beneficiary and $10,000 per each sibling of the beneficiary.
4) Repeal of the “stretch” strategy for inherited IRAs. This provision is considered the headliner of the SECURE Act due to its significant impact on beneficiaries of inherited IRAs. Previously, certain individuals, known as “designated beneficiaries”, could defer IRA distributions and their accompanying income tax for the period of the designated beneficiary’s lifetime. These deferrals allowed beneficiaries to stretch out the distributions and defer tax liability over a longer period rather than taking a lump sum distribution. This “stretch” technique was quite common. It could also serve as an income tax benefit for a designated beneficiary who was much younger than the retirement account owner because distributions could be paid over a life expectancy that was anticipated to be much longer than that of the retirement account owner.
For individuals who inherit an IRA after 2019, SECURE requires that all retirement plan assets be withdrawn within 10 years of the retirement account owner’s death (specifically, no later than December 31 of the 10th year following the retirement account owner’s death). Accordingly, the old “stretch” strategy, which used a designated beneficiary’s life expectancy as the period over which distributions were made, can no longer be used and beneficiaries will be required to use the 10-year period. For most individuals who inherit an IRA after 2019, this new rule will result in less time to manage the tax liability.
Exceptions:
While the new 10-year payout period is the general rule, Congress has prescribed five (5) new categories of people who are excepted from this rule and who may use a modified version of the life expectancy, or “stretch”, strategy. To do so, the beneficiary of an inherited IRA must be one of the following “eligible designated beneficiaries”:
- The surviving spouse of the retirement account owner;
- A minor child of the retirement account owner;
- An individual less than 10 years younger than the retirement account owner.
- A chronically ill individual within the meaning of Code section 7702B(c)(2); or
- A disabled individual within the meaning of Code section 72(m)(7);
Importantly, an eligible designated beneficiary’s exemption from the 10-year payout rule does not last not forever. For example, the 10-year payout rule is triggered upon the death of the eligible designated beneficiary or, in the case of a minor child, when the child reaches the age of majority (age 18 in Indiana). Thus, the exception will not continue to apply, and the retirement assets must be distributed within 10 years from the date of such event.
Conclusion:
The changes resulting from the SECURE Act are significant and potentially complex depending upon an individual’s circumstances. Retirement account owners should review their beneficiary designations to determine whether the SECURE Act affects their wishes or estate plan. Please contact one of the attorneys in Barrett McNagny’s estate planning and administration group to determine whether any action should be taken with respect to your retirement accounts.
About the Author:
Carta Robison focuses her practice in the area of estate planning and administration where she assists clients with estate planning, probate matters, estate administration and charitable and gift planning. She can be reached at (260) 423-8910 or at chr@barrettlaw.com.