Despite all the other things Congress has to do, it has been busy working on the SECURE Act, which stands for Setting Every Community Up for Retirement Enhancement (please see https://www.congress.gov/bill/116th-congress/house-bill/1994 for a link to summaries of the bill). If passed, the Act would be the first major revision to retirement legislation since 2006.
This bill has been passed only by the House of Representatives. It has yet to be acted on by the Senate, and so the provisions could change. However, it is widely perceived as having support from both the Senate and the President. So the Act is already being scrutinized for its potential impact.
How could it impact you? The answer depends on your personal situation. There are both pluses and minuses depending on how your affairs are arranged. We’ll attempt to cover a couple of major portions of the bill that could impact clients. There are 29 provisions in the bill, but we will focus only some key areas impacting retirement accounts.
Is the Government Coming After your IRA?
Whether this could be the case depends a lot on how much you have saved in tax deferred accounts. Please know that this legislation could impact not only IRAs, but also 401(k)s and 403(b)s.
There are several provisions, but we’ll focus on two key ones here:
Later Age for Taking Required Minimum Distributions Today the law requires that most individuals take out required minimum distributions (RMDs) from their retirement accounts once you reach age 70 1/2. The SECURE Act would delay this requirement to age 72. The RESA Act currently in front of the Senate seeks to push RMD requirements even further back to age 75. Some of you would welcome this change, as it lets you defer taxes a bit longer.
The Death of the Stretch IRA The SECURE Act would make significant changes to inherited retirement plans like 401(k)s, traditional IRAs, and Roth IRAs. In the past, beneficiaries of these accounts could typically spread the distributions over their own life expectancy.
However, the new bill includes what is viewed as a tax-generating provision that would require many beneficiaries to distribute the account over a 10-year period. This change would accelerate the depletion of inherited accounts for many large IRAs and retirement plans. This is especially an issue for secondary beneficiaries, as a spouse may spread distributions over his or her lifetime.
How does this impact you? It depends on how much you have in tax deferred accounts, and who your beneficiaries are and their circumstances. Typically, smaller inherited accounts are liquidated fairly quickly by beneficiaries. However, if you have larger accounts (say $1 million and above), your family could be significantly impacted, especially if the retirement account owner wants post-death control over spending.
Many retirement account owners have established see-through or conduit trusts, where distributions can be made from the IRA to the trust, and then to the beneficiaries, with the distribution taxed at their income tax rates. This provides a level of protection for beneficiaries who may be spendthrifts, too young or disabled or have other issues where it may be deemed better to spread out the payment of large sums of money. They still receive the distributions over their lifetimes, but do not have access to empty the account in a lump sum. And as mentioned, the distributions are taxed are their rates.
The Act essentially does away with the conduit trust, which means the IRA could instead be distributing to an accumulation trust. In this case the trustee can hold back payments at its discretion (the control aspect), but then IRA distributions become subject to trust income tax rates, which are onerous. So control becomes difficult, and taxes become a big issue.
There are several potential strategies to deal with the situation, but these provisions significantly increase the benefit of Roth conversions, especially while we are in a low tax rate environment until 2025. And by all means, review your beneficiary designations for potential issues. You may need to revisit your estate planning. Even if your account balance is “small,” you may have established trusts for certain reasons, and IRAs may be poor candidates for trusts.
To reiterate, none of this is law yet, but these issues take time and thought to address. So it is not too early to begin thinking about these issues.
We will be paying attention to the final outcome of this bill. In the meantime, please consider whether and how your retirement savings may be impacted, and review your beneficiary designations. We will be reaching out to our ongoing clients to start this process in preparation for the final bill. Please also consult your estate planning attorney as appropriate.