The Setting Every Community Up for Retirement Enhancement Act of 2019 (The SECURE Act)
This new law took effect January 1, 2020 and is the biggest change to retirement planning since the Pension Protection Act of 2006. As you may recall, that is when Congress allowed for automatic enrollment and target date funds in employer sponsored retirement plans. The primary objective of this new act is to strengthen retirement security. Below are highlights that may interest you. All are effective after December 31, 2019 unless otherwise stated.
Increasing the Required Minimum Distribution Age & Contribution Age
Prior to this new legislation, account holders of traditional qualified retirement accounts such as 401(k)s and IRAs had to withdraw a required minimum distribution (RMD) upon turning age 70 ½. The SECURE Act increases that age to 72. It also eliminates altogether the maximum age for traditional IRA contributions provided the account holder is still working.
Caution: If you turned 70 ½ last year and did not take an RMD in 2019, you must take one for 2019 by April 1, 2020 and another for 2020 before December 31, 2020. People that turn 70 ½ in 2020 will not be required to withdraw RMDs until age 72.
Qualified Charitable Distributions up to $100,000 for year are still allowed starting at age 70 ½.
Prior to the new legislation, non-spousal inheritors in many cases could withdraw required minimum distributions for the span of their lives. This was commonly known as the “stretch” provision for IRA and other retirement accounts. The SECURE Act requires beneficiaries to withdraw all assets of an inherited IRA within 10 years. There are no required minimum withdraw distributions within the 10 year time frame, but the entire balance must be distributed by the 10th year. This affects both traditional and Roth retirement accounts.
Anyone who inherited an IRA from an original account owner who passed away prior to January 1, 2020 can continue their current distribution schedule. Plans maintained pursuant to a collective bargaining agreement have an effective date of January 1, 2022. State and Federal government plans are also not impacted until January 1, 2022.
If you inherit an IRA from this point forward, understand that distributions from the inherited traditional IRA can be problematic from a tax perspective. If you inherit an IRA, I will work with you to plan out your distributions keeping in mind tax implications and your other goals.
What about your retirement accounts? Now is a good time to revisit your estate plan to understand the implications of this new law. For example, if you have set up a trust as the beneficiary for your retirement accounts, the new rule may unfavorably impact how your IRA is distributed to your heirs.
Conduit Trusts may have been drafted in a manner to make distributions based on the required minimum distribution. According to the SECURE Act, there is not a required minimum distribution until the 10th year when all of it must be distributed. This may mean that your heirs will not get any of it until the 10th year when they will get all of it. The tax consequences alone are significant.
Discretionary Trusts may not fare much better. Such trusts often require that all, or a substantial portion of the account distributions remain in the trust wherein it will be subject to trust tax rates. Compressing the timetable to take distributions from “lifetime” to 10 years can result in substantial loss in value due to taxes.
If you need help understanding what this means for you, email me at email@example.com to set up a convenient time to take a look at your situation.
Annuities in 401(k) Plans
The SECURE Act will allow more employers to offer annuities as an investment option within 401(k) plans. Currently, employers hold the fiduciary responsibility to ensure these products are appropriate for employee’s portfolios, but under the new rules, the fiduciary responsibility will fall on the insurance companies selling the annuities.
Annuities provide guaranteed income over the course of a retiree’s lifetime but may not always be in the investor’s best interest. They are complex investment products and often have high fees. Always complete a consultation with me before adding an annuity to your portfolio.
Employers: Increased Penalties for Failure to File Retirement Plan Returns
If you are a business owner that offers an employer sponsored retirement plan, you must submit Form 5500 each year. The legislation modifies the failure to file penalties for retirement plan returns. The Form 5500 penalty will be modified to $105 per day, not to exceed $50,000. Failure to file a registration statement will incur a penalty of $2 per participant per day, not to exceed $10,000. Failure to file a required notification of change will result in a penalty of $2 per day, not to exceed $5000 for any failure. Failure to provide a required withholding notice results in a penalty of $100 for each failure, not to exceed $50,000 for all failures during any calendar year.
Employers: Combined Annual Report for Group of Plans
The SECURE Act will make it easier for small businesses to band together to offer retirement plans to their employees. The legislation allows small businesses to combine annual reports reducing aggregate administrative costs. Plans eligible for consolidated filing must be defined contributions plans, with the same trustee, the same named fiduciary (or named fiduciaries) under ERISA, and the same administrator, using the same plan year, and providing the same investment or investment options to participants or beneficiaries. Note this provision does not take effect until plan years beginning after December 31, 2020.
Employers: Automatic Enrollment Credit
Creates a new tax credit of up to $500 per year to employers to defray startup costs for new 401(k) plans and SIMPLE IRA plans that include automatic enrollment. The credit is in addition to the plan start-up credit allowed under previous law and would be available for three years. The credit is also available to employers that convert an existing plan to an automatic enrollment design.
If you are an employer and would like to learn more about setting up an employer sponsored retirement plan, email me at firstname.lastname@example.org.
Employers/Workers: Disclosure Regarding Lifetime Income
The legislation requires benefit statements provided to defined contribution plan participants to include a lifetime income disclosure at least once during any 12-month period. The disclosure must illustrate the monthly payments the participant would receive if the total account balance were used to provide lifetime income streams, including a qualified joint and survivor annuity for the participant and the participant’s surviving spouse and a single life annuity.
This is good news. I meet many people that do not understand the savings required to live financially independent for 20 to 30 years in retirement. Having a statement that communicates the potential monthly income they can expect for life will help pre-retirees have a clearer picture of their situation.
The Secretary of Labor has been directed to develop a model disclosure. My only hope is that it takes inflation into account. For example, a fixed payment of $5000/month today will feel closer to $3000/month in 20 years after 2.5% annual inflation, and less than $2400/month in 30 years. If annual inflation is 3.5%, $5000/month today will feel like $2500/month in 20 years and $1780/month in 30 years.
Previously, employers could exclude part-time employees working less than 1000 hours per year. The new law requires employers offering a 401(k) plan to have a dual eligibility requirement under which an employee must complete either a one year of service requirement (with the 1000 hour rule) or three consecutive years of service where the employee completes at least 500 hours of service.
The legislation provides for penalty-free withdrawals from retirement plans for any “qualified birth or adoption distribution” at any point during the one-year period beginning on either the date of birth, or the date on which the adoption of an individual under the age of 18 is finalized. Not before.
Expansion of Section 529 Plans
529 Qualified Tuition Program and Education Savings Accounts may now cover costs associated with registered apprenticeships; homeschooling; up to $10,000 of qualified education loan repayments; and private elementary, secondary, or religious schools.
Previously, preferred tax treatment was only given to distributions for current year qualified expenses and did not include loan repayments. Applies to distributions made after December 31, 2018. That’s right, 2018! If you used funds from a 529 to make a payment for any of the items listed, be sure to let your tax preparer know.
Home healthcare workers and certain foster care parents compensated by tax exempt “difficulty of care” payments can now treat these payments as compensation when determining contribution limits for a defined contribution plan or IRA.
Increase in Penalty for Failure to File
Failure to file penalty after December 31, 2019 will be the lesser of $400 or 100% of the amount of the tax due. Make sure you get your tax returns in on time! And if you expect to owe more than $1000 in federal income taxes that are not prepaid through withholding, you must make quarterly estimated tax payments. Consult your tax preparer to make sure you don’t end up paying unnecessary penalties.
Kiddie Tax reverts back to pre-Tax Cut and Jobs Act (TCJA). Prior to the TCJA, any income subject to the Kiddie Tax was taxable at the child’s parents’ marginal tax rate. The TCJA made the income subject to trust tax rates. The change is effective 2020, however, taxpayers can elect to apply the old rules to the current 2019 tax year, and back to 2018 as well! Be sure to speak with your tax preparer and ask them to use the method most advantageous to your situation.
Fran McKay, CFP®, AAMS®, CRPC®