On December 20, 2019, President Trump signed into law landmark legislation titled “Setting Every Community Up for Retirement Enhancement” Act (“SECURE Act”).1 While the SECURE Act is intended to simplify the retirement system and allow individuals to increase retirement savings, there are several critical changes that will affect many estate planning clients. Clients with retirement accounts should contact their Trusts and Estates Group attorney to review their current beneficiary designation forms, wills, revocable trust provisions, and overall estate plans in light of the changes outlined below.
Required Beginning Date Age Change and Removal of Contribution Age Restrictions
The first major and most talked about changes are the increase of the age at which required minimum distributions (RMDs) must be taken, from 70½ to 72, and the repeal of the maximum age at which contributions to traditional IRAs can be made. Note that a person who reached age 70½ by December 31, 2019, will remain subject to the old rule and therefore must commence taking the RMD by April 1, 2020. Consistent with the prior law, Roth IRAs are not subject to the RMD rules until the Roth IRA owner (or the spouse of the deceased owner who rolled over into his or her own Roth IRA) dies.
The age increase is beneficial to clients who may not need income at age 70½, would like to see their assets continue to grow tax-deferred, and don’t want to be placed in a higher income tax bracket as a result of distributions. Despite the higher age provided in the new rule, clients who elect to make qualified charitable distributions from their IRA accounts can begin doing so at age 70½, as under the prior law.
Previously, IRA contributions had to stop when an IRA owner reached age 70½. Now, as a result of the SECURE Act, people who continue to work into and beyond their 70s will be able to continue making tax-deferred contributions to their traditional IRAs as long as the IRA owner has earned income.
Ten-Year Rule and End of the Stretch IRA in Most Circumstances
An additional significant and, for some individuals, concerning SECURE Act change is the elimination of “stretch” IRAs in many circumstances and implementation of a new “ten-year rule.” Prior to enactment of the SECURE Act, a Plan participant was able to defer distributions following death over the life expectancy of the named beneficiary, thus deferring income tax. Plan participants seeking protection for large retirement accounts often named trusts with so-called “conduit” provisions as beneficiaries, which would collect and pay RMDs to beneficiaries over the stretched time period.
Going forward, most beneficiaries inheriting a Retirement Plan must withdraw all Plan assets within 10 years of the Plan participant’s date of death. Withdrawals don’t have to be made throughout the ten-year period, but at the end of the period, the entire balance must be distributed, whether the Plan participant died before or after RMDs began. Exceptions include beneficiaries who are surviving spouses, minor children (though the ten-year rule will apply when the child reaches the age of majority), and chronically ill or disabled heirs (though the ten-year rule will apply at death or end of disability or chronic illness of the beneficiary). Note that with a Roth IRA, accelerated distribution will not increase taxes because distributions are tax-free, but loss of future tax-free growth will result.
While the ten-year rule will serve as a revenue raiser for the government, it may upset an estate plan that used a so-called “conduit trust” (trusts that act as “conduits” to hold retirement accounts and control distributions to beneficiaries).
Plan participants who currently include trusts with conduit provisions in their wills and revocable trusts should review their governing documents with a Private Client Group attorney as soon as possible and consider whether a different type of trust should be named as beneficiary to avoid a large lump sum distribution after ten years. Alternatives include an accumulation trust, though such a trust comes with its own set of tax consequences and does not avoid application of the ten-year rule, except in the case of a chronically ill or disabled beneficiary, or a Charitable Remainder Trust, which has its own set of rules and can result in stretched-out distributions. Special planning opportunities also exist for clients who have beneficiaries with disabilities.
The SECURE Act makes numerous other changes to qualified Retirement Plan rules including, but not limited to:
Permitting use of 529 account funds toward qualified student loan repayments, subject to a $10,000 lifetime cap per beneficiary;
Allowing penalty-free withdrawals of $5,000 from IRAs and certain other Plans to be used toward costs of child birth or adoption;
Authorizing long-term, part-time workers to participate in an employer’s 401(k) plan;
Relaxed rules for multiple employer Retirement Plans; and
Automatic enrollment credit and liberalized “safe harbor” Plan rules for small business owners.
The changes to the RMD rules following the death of a Plan participant made by the SECURE Act will apply to all Retirement Plans inherited after January 1, 2020. All clients with qualified Retirement Plan assets should review and consider revising beneficiary designation forms and will and trust provisions that create conduit trusts intended to hold retirement assets.
1 The new SECURE Act provisions apply to the following qualified retirement plans: (a) IRA; (b) SIMPLE IRA; (c) Simplified Employee Pension (SEP); (d) Employer-sponsored retirement plans, such as 401(k) plans, defined benefit plans, defined contribution plans, and profit sharing plans; (e) 403(b) plans; (f) 457(b) plans; (g) Roth 401(k) plans; (h) Roth IRAs; and (i) Canadian Registered Retirement Savings Plans (RRSPs) and Registered Retirement Income Plans (RRIFs) will now be treated as US IRA equivalents to a certain extent as per Rev. Proc. 2014-55. For the sake of simplicity, unless otherwise noted, all such plans shall be referred to in this alert as a “Retirement Plan” or “Plan” and the Plan participants or IRA owners as “participants” or “owners.”