On Dec. 20 the "Setting Every Community Up For Retirement Enhancement" Act, better known as the SECURE Act, was quietly signed into law. Arguably one of the most significant retirement-related reforms in recent years, it received little media coverage yet will impact many starting this year.
Perhaps the biggest changes affect those with individual retirement accounts (IRAs) and potentially their beneficiaries. The act increases the age at which required minimum distributions (RMDs) must begin from the previous 70½ to 72, starting with those who attain age 70½ in 2020.
In terms of beneficiaries, the new law will have a big impact on non-spouses who inherit an IRA or 401k. These beneficiaries previously were required to start taking distributions by Dec. 31 of the year following death of the account holder but could stretch those required distributions over their lifetimes. The new law requires all distributions to be taken within 10 years, setting up some potential tax issues for the inheritor as these distributions are recognized as ordinary income. (There are exceptions to the 10-year rule, including children who are minors, disabled beneficiaries and those individuals less than 10 years younger than the account owner).
Other provisions of the SECURE Act include the following:
- Those still working will now be able to contribute to IRA accounts past age 70½ (this was already permitted for 401k plans).
- Funds in 529 college savings plans will be able to be used to pay off up to $10,000 in student loan debt in a student's lifetime -- a potential use for leftover 529 funds for those with student debt.
- A penalty-free distribution of up to $5,000 per individual for "qualified birth or adoption distribution" is now permitted from defined contribution plans.
- A tax credit for 50% (up to $5,000) for start-up costs the first three years after an employer with fewer than 100 employees adopts a new qualified retirement plan.
- The cap for employee auto-enrollment contributions has been raised to 15% of pay from the previous 10% in employer sponsored plans.
- Portability of lifetime income options; if a defined contribution plan no longer offers a lifetime income (annuity) option, plan participants are allowed to transfer funds to an IRA, another employer plan, or take the distribution as a qualified annuity distribution.
The SECURE Act is so new that interpretations of the law and its effect will abound for quite some time. In my view, the most impactful change In terms of financial planning is the inherited IRA provision and need for beneficiaries to take distributions over a 10-year period.
By expanding the RMD age to 72, Uncle Sam allowed a little breathing room and perhaps delayed the collection of taxes briefly. However, the changes to the inherited IRA laws may more be more than offsetting, forcing beneficiaries to take larger distributions than they were required to previously at a potentially higher tax rate, depending on their situation.