Whether or not you followed the debates surrounding the new SECURE Act (SECURE stands for Setting Every Community Up for Retirement Enhancement), this act will likely impact you and your taxes in 2020. So let’s take a moment to understand how it will affect you. I’ve created a handy list below with links so you can jump to those topics that may have an impact on you.
Changes for Retirees
No Age Restriction on Contributions to IRAs
Previously, you could no longer contribute to a traditional IRA after age 70 ½, even if you were still working. Now you can continue to contribute to both Traditional and Roth IRAs with no age cap, as long as you have earned income.
Required Minimum Distributions (RMDs)
RMDs will no longer be required to start at age 70 ½. Instead, they will be required to start at age 72. However, this only applies if you turn 70 ½ in 2020 or beyond.
Qualified Charitable Donations (QCDs)
QCDs, which have recently been gaining in popularity as a way to fulfill RMDs without owing additional taxes, continue to be available as of age 70 ½. Under this rule you can donate up to $100,000 from your IRA directly to a charity, making the distribution non-taxable. By doing a QCD prior to reaching RMDs at age 72, you can reduce the RMDs that will be required later.
Changes for Savers
401(k)s for Part-time Employees
Starting in 2021 the SECURE Act requires that certain part-time employees be eligible to contribute to 401(k)s. To be eligible employees must be over 21 and have worked at least 500 hours for the previous three consecutive years. Notably the law specifically excludes collectively bargained employees.
New Exception for 10% Penalty
You can now pull up to $5,000 out of your retirement account in order to help pay expenses associated with a Birth or Adoption. The stipulation here is that you can only take the distribution after the event has occurred. Also, if you are later able to repay the amount taken out, you will be able to replenish the account, though over what time period is currently unknown. Remember that you’ll still owe income tax on the distribution, just not the additional 10% penalty.
Annuities in 401(k)s
This one is a powder keg. On the one hand, low-cost annuities can add much-needed stability to retirement income. On the other hand, 401(k)s are notoriously heavy-handed on fees, an issue that was just starting to come under control. Therefore, many worry that adding annuities--another product notorious for hidden high fees--will compound the problem to take much-needed retirement savings away from average savers.
In addition, the new law makes it so that the 401(k) fiduciary isn’t responsible if the annuity company chosen later goes out of business and is unable to pay the income stream expected to the participants.
Lifetime Income Disclosure
In addition to the ability to offer annuities, 401(k) plan administrators will be required to provide an estimate of the monthly income you could receive if you used the current balance to buy an annuity. (I wonder which lobby managed to get that attached.…)
Changes for Parents
Kiddie Tax Reverted
The Tax Cuts and Jobs Act made a major change to the Kiddie Tax, and the SECURE Act undoes that change. So once again children under 17 with unearned income will pay taxes at their parents’ marginal tax rate, instead of at the (usually higher) trust tax rate.
Also see above the New Exception to 10% Penalty for birth or adoption expenses.
Changes for College Planning
Qualified 529 Expenses
Most importantly 529s can now be used to make “Qualified Education Loan Repayments.” These payments must go to interest or principal of qualified education loans and are limited to a lifetime amount of $10,000.
Changes for Heirs
The major provision that financial advisors are most concerned with is a significant change to Inherited IRAs. Under previous law, you were allowed to distribute an Inherited IRA over your lifetime using a Required Minimum Distribution table. If you didn’t take your distribution soon enough, or there was no beneficiary named, you instead had to take the entire amount out of the account within 5 years.
Now if you inherit an IRA you MUST take the entire amount out of the IRA within 10 years of the year following the inheritance. The exceptions to this are spouses, disabled beneficiaries, chronically ill, beneficiaries not more than 10 years younger than the decedent, and certain minor children of the decedent (until they reach the age of majority). For any trusts set up to “see-through” to the beneficiaries, there is currently only guidance if the beneficiary is disabled or chronically ill. For all others, we are still waiting for guidance from the IRS.
This is a big deal because when you inherit an IRA and take withdrawals from that IRA you are taxed on those withdrawals. So if you inherited $1 million from a parent when you were 40 you would have to take $22,936 out the first year which adds to your taxable income. Now if you were to split the withdrawal over 10 years (assuming no growth) you’d need to take out $100,000. Adding $20,000 to your income is significant, adding$100,000 almost certainly vaults you into a much higher tax bracket, and usually means the money doesn’t last as long.
Changes for Business Owners
Automatic Enrollment Enhancement
Previously employers could automatically enroll employees and have the employees’ contributions slowly increase to 10% unless the employee opted out or changed the contribution amount. The new law increases that to 15% and speeds up the time frame, allowing the maximum contribution to be reached in the second year or participation in the plan.
Small Business Retirement Plans
SECURE allows small businesses to take a credit of 50% of the start-up costs up to $5,000 (up from $500). It also provides an additional $500 tax credit for start-up costs if the plan is a 401(k) or SIMPLE IRA with automatic enrollment.
Also, because of the cost to provide retirement plans, SECURE allows small businesses to join together to provide a “pooled” retirement plan, even if they are unrelated.