For years, it's been widely reported that Americans aren’t saving enough to support a comfortable retirement. Lawmakers have set out to change this, and the new rules include some big changes to retirement accounts.
The SECURE Act (Setting Every Community Up for Retirement Enhancement Act) was signed into law on December 20th and became effective January 1st. It’s the largest piece of retirement legislation passed since 2006. While the bill includes some marginally favorable changes for younger savers, it's actually the people at or near retirement that are most immediately impacted.
Here are the top things you need to know:
Required Minimum Distributions (RMDs) Now Begin at Age 72
Any time you save in a tax-deferred account (think your 401(k) or traditional IRA), you’re essentially delaying paying those taxes from today until a later point in time. The IRS prefers to collect that tax, and requires that you start taking money out of these accounts once you reach a certain age. This is called a Required Minimum Distribution, and the age at which they begin is now 72.
The biggest benefit of this could honestly be that people might actually understand when they need to start taking their distributions. The previous age was 70½, which to me, always seemed like an unnecessary opportunity for confusion.
This change also extends the gap to take advantage of valuable tax-saving strategies (hello partial Roth conversions) while your income may still be lower.
Farewell (For Most) to the Stretch IRA. It’s Been a Good Ride
When I think about the majority of the families I work with-People who have diligently saved in their 401(k) or 403(b) throughout their career-This is the big one.
Previously, if you were to die with a Traditional IRA, your kids would inherit that money tax-deferred by way of a Beneficiary IRA. They would then have the ability to “stretch” the tax benefits an IRA provides by making required distributions over the course of their lifetime.
The new law requires beneficiaries to take all money out of an inherited IRA within a ten year period. In many cases that means your kids may now be distributing those funds during their peak earning years, resulting in a higher tax rate paid. Not ideal.
There are some exemptions to the ten-year rule: Surviving spouses, minor children, disabled and terminally ill, and those not more than ten years younger than the IRA owner.
For everyone else, this is a major change that should have a significant impact on how you approach your estate planning. It’s now more important than ever to review your beneficiaries to see how they’d be affected by the new rules.
See below for a helpful chart of the changes from Jeff Levine at kitces.com. Click the image to view his comprehensive summary of the Act.
Naming a Trust as Beneficiary to Your Retirement Account
For years, a common estate planning strategy has been to elect a trust as beneficiary to your retirement accounts to take advantage of certain tax benefits. Under the new rules, many of these trusts will no longer work as intended. If you’ve chosen to name a trust as a beneficiary to your IRA or 401(k), it’s critical that you meet with an estate planning attorney immediately to review if your plan is still in good order.
Do Your Homework With Annuities in Your 401(k)
Historically, most 401(k) and similar workplace retirement plans haven’t provided participants access to annuities as an investment option. The SECURE Act is about to change that.
Call me cynical, but I think it’s pretty telling how insurance providers reacted to the passing of the bill. I do believe that participants having more options to choose from is a good thing. I also think guaranteed income products can be a useful tool for some savers. They’re just not for everyone.
Insurance companies have a long history of providing overly complex, expensive solutions to people that are not in their best interest. If you want further proof, look no further than retirement plans in the education field, where teachers are often sold expensive annuities that they don’t need within their 403(b) accounts. It’s maddening.
If it wasn’t already clear, this is my least favorite component of the new legislation. However, there’s still a lot left to be seen with how things actually play out. For now, you can read up on retirement annuities and how to decide if an annuity is right for you.
On a more positive note, here are some additional highlights from the bill that I’m happy to see were included:
- No More Age Limit for Traditional IRA Contributions
In the past, if you were over the age of 70½ , you were unable to contribute to a Traditional IRA. Not anymore. For a married couple over 70½, they can now tuck away an extra $14,000 a year by maxing out their contributions, and earn a tax deduction while doing so.
- Small Business Retirement Plans
Certain tax credits are now available to encourage employers who don’t offer a plan to begin doing so. There is also a provision that allows smaller companies to group together and share the costs associated with administering a retirement plan.
- Adoption/Birth Expenses
You can now make penalty-free withdrawals up to $5,000 (per child) from your 401(k) or other retirement accounts for the adoption or birth of a child. We’ll take it.
- Student Loan Repayment From 529 Accounts
You are now allowed to take up to $10,000 (lifetime) from a 529 account to pay back qualified student loans. This opens up some interesting tax opportunities for those with student loan debt.
As you can tell, there are many moving pieces to the SECURE Act and it remains to be seen how meaningful an impact these changes will have on retirement savings as a whole. At first glance, the bill doesn’t do much to address the fact that millions of Americans have far too little saved for retirement. For many retirees and soon-to-be-retired families, the legislation has a potentially significant impact and should immediately change how they approach their retirement and estate planning conversations.
One of the most important things to understand when it comes to money is that financial planning is a continuous and ongoing process as your life evolves. While you may not be able to predict regulatory changes, you can put yourself in a position to make decisions from a rational mindset. Now is as good a time as ever to revisit (or create!) your own financial plan to ensure you’re making the most of the new rules.
If you have questions about how these changes may affect your specific situation, please feel welcome to contact me directly at any time.
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Brett Koeppel is a CERTIFIED FINANCIAL PLANNER™ in Buffalo, NY and the Founder/President of Eudaimonia Wealth, a Buffalo, NY fee-only financial planning and wealth management firm. As a fee-only, fiduciary registered investment advisor, Eudaimonia Wealth provides independent, objective financial planning and investment management to help families gain financial clarity by aligning money and purpose in their lives.