Secure Act: Retirement Tax Law Changes & More, Part I

Congress is great at titling laws with acronyms. The SECURE Act is yet another one of that category of bills with cutesy names with greater emphasis on creating a word than making sense, in this case, “Setting Every Community Up for Retirement Enhancement Act of 2019,” which, contrary to its title, has nothing to do with communities per se. This bill has passed the House with overwhelming bipartisan support and is paired with a similar bill in the Senate. The Senate effort to pass this legislation is currently stalled.

We expect many of the following proposals to become law:

• Eliminate the age 70-1/2 cutoff at which workers are no longer allowed to contribute to IRAs;

• Increase the age at which required minimum distributions must be made from an IRA or employer sponsored qualified retirement plans, like 401(k) plans, from age 70-1/2 to age 72;

• Limit the period of time that distributions from inherited IRAs and inherited employer sponsored qualified retirement plans would be required to be paid out to 10 years rather than the life expectancy of their beneficiaries. Exceptions to this limit are likely to include spousal rollovers and inherited retirement accounts where the beneficiary is a minor or disabled;

• Permit employers to automatically escalate their employees’ contributions up to 15% of pay, which is an increase from the prior limitation of 10%;

• Increase the tax credits provided to small businesses who start up retirement savings plans and/or include automatic enrollment from $500 to $5,000;

• Allow graduate students and postdoctoral to save for retirement based on their stipends/fellowships, and allow home healthcare workers to save based on “difficulty of care” payments, which are otherwise not counted as compensation;

• Create a safe harbor that employers can use when they are choosing group annuity issuers to support 401(k) plan lifetime income stream options;

• Require plan sponsors to tell the participants about how much monthly retirement income their assets might produce; and

• Expand Section 529 education savings accounts to include such categories as apprenticeships and homeschooling expenses.

The proposed changes to the required distribution period from IRAs and other employer sponsored qualified retirement plans will significantly accelerate distributions. Let’s look at this example:

An individual age 25 inherits a $1,000,000 IRA. The required distributions under current law would be paid out over the life expectancy of the 25-year old, which would be 58.2 years. The SECURE Act would require the beneficiary to withdraw everything from the inherited IRA over 10 years. Under current law, the initial required distribution for the 25-year-old beneficiary would be $17,182 ($1,000,000 divided by 58.2). In the second year, the minimum amount required to be distributed would be the balance at the beginning of the second year divided by 57.2. In each successive year the divisor would be reduced by 1. Ultimately, the full amount would be distributed within the 58.2-year period. If the required minimum amount is not distributed, the beneficiary would be subject to a 50% penalty on the amount not distributed.

The SECURE Act would not require a distribution in the first year. The total amount in the IRA would be required to be fully distributed within the 10-year period in any manner the IRA beneficiary decides. The entire IRA could be distributed on the last day of the 10-year period. The SECURE Act will require a beneficiary to plan distributions over the 10-year period more carefully.

We will address planning issues associated with these proposed changes to the required minimum distribution rules in future articles.