Updated: Oct 6, 2022
Have you heard about the SECURE Act (Setting Every Community Up for Retirement Enhancement)? It’s a new law that went into effect on January 1, 2020. The SECURE Act is the most far reaching and impactful legislation affecting retirement accounts in decades. If you have an estate plan, trust, or retirement savings account, this article is for you.
Age Requirements Change
The SECURE Act increases the required beginning date (RBD) for required minimum distributions (RMDs) from individual retirement accounts from 70½ to 72 years of age for those who did not reach age 70½ by the end of 2019. It also eliminates the age restriction for contributions to qualified retirement accounts. Those who work past age 70½ can now contribute to IRAs, matching the rules for 401(k)s and Roth IRAs. This means that older adults will be able to continue to withdraw only the required minimum distribution (RMD) from retirement accounts during each year of retirement. They may choose not to do so for other reasons.
Stretch IRAs: Gone
Perhaps the most significant change will affect the beneficiaries of retirement accounts. Under the old law, beneficiaries of inherited retirement accounts could take distributions over their individual life expectancy. This led to the development of the “Stretch IRA” concept, where younger beneficiaries took small required minimum distributions over their lifetime, while “stretching” the tax-deferred growth of the IRA over decades. The SECURE Act requires most designated beneficiaries to withdraw the entire balance of an inherited retirement account within ten years of the account owner’s death. This could create problems for beneficiaries. For one, beneficiaries could be subject to taxes much sooner than expected. They could also be bumped into a higher income tax bracket. It’s important to note that there are a few exceptions to this new mandatory ten-year withdrawal rule. The rule does not apply if the “eligible designated beneficiary” is the spouse of the account owner. Beneficiaries who are not more than ten years younger than the account owner, the account owner’s minor children, disabled individuals, and chronically ill individuals are also exempt from the ten-year withdrawal rule.
Many of the detailed implications of the SECURE Act aren’t yet clear, which means estate planning attorneys, financial advisors, and other wealth management professionals are working together to figure it out. Here’s what we know.
Trusts Will Likely Need to Be Updated
The SECURE Act is almost certain to create unintended tax consequences and even significant tax hikes for heirs. It may be necessary to look at alternative planning strategies in light of these changes. More generally, the language in many trusts will need to be updated in order to continue to meet planning objectives. Historically, there were two types of trusts commonly used as beneficiaries of qualified account: a conduit trust or an accumulation trust.
Conduit Trusts Should Be Evaluated
Many pre-SECURE Act trusts included a “conduit” provision, which allowed for distribution of RMDs while protecting the trust account balance. Only required minimum distributions (RMDs) were vulnerable to creditors and divorcing spouses. With the SECURE Act’s passage, the entire qualified account balance may be required to be distributed to the beneficiary within ten years of the account owner’s death depending on the eligibility status of the beneficiary. In other words, if the beneficiary is a child (not an eligible designated beneficiary status), the IRA funds would have to be completely distributed within ten years regardless of utilization of a conduit trust.
Consider Additional Trusts
An alternative to the conduit trust is an accumulation trust which, by design, would hold and accumulate the distributions from qualified retirement accounts. As a result, funds in the trust would be taxed at trust tax rates, which are usually considerably higher than individual tax rates due to the compression of tax brackets. This type of trust offers the benefit of protecting funds from creditors or spendthrift beneficiaries.
Check Your Beneficiaries
Given the big changes to the laws surrounding retirement accounts, now is a great time to review and confirm your retirement account information. It is vital that your beneficiary designation is filled out correctly. If your intention is for the retirement account to go into a trust for a beneficiary, the trust must be properly named as the primary beneficiary. If you want the primary beneficiary to be an individual, he or she must be named. It’s also important to make sure you have listed contingent beneficiaries. If you have recently divorced or married, you will need to ensure the appropriate changes are made to your beneficiary designations because, at your death, in many cases, the plan administrator will distribute the account funds to the beneficiary listed, regardless of your relationship with the beneficiary or what your ultimate wishes might have been.
Everyone Should Review Their Estate Plan
We can’t stress this enough. If you have an estate plan, call the professional who helped you create it and request a meeting. Estate plans include many moving parts and the SECURE Act could be the monkey wrench that disrupts whole thing. Think about it. Make sure that your estate plan works as intended. That’s a far better alternative than leaving it to your heirs to discover that it doesn’t.
If you would like to discuss how the SECURE Act impacts your estate plan, give Takacs McGinnis a call at (615) 824-2571.