The SECURE Act: Implications to Retirement Accounts and Estate Planning

By Maurice R. Kassimir, Esq., Maurice Kassimir & Associates, P.C. – January 3, 2020
The SECURE Act: Implications to Retirement Accounts and Estate Planning

Even those who have been paying close attention to the news lately have likely missed the headlines announcing the passage of the “Setting Every Community Up for Retirement Enhancement Act,” more commonly known as the SECURE Act. This is because the SECURE Act was attached to an appropriations bill that was rushed through both houses to prevent another government shutdown. The SECURE Act has wide-reaching tax planning implications that will affect different communities in different ways. One thing is clear: the new law will not “enhance” everyone’s retirement. 

Advantages 

Before getting into the downsides of the legislation, it should be noted that there are a few positive changes. 

  • The age to commence required minimum distributions increased from age 70 ½ to 72. This new rule applies to account owners who turn 70 ½ on or after Jan. 1, 2020.
  • The Act repeals the prohibition on contributions to a traditional IRA by an individual who has attained age 70 ½.
  • It allows an employer the ability to implement a new qualified plan such as a defined benefit plan or profit-sharing plan prior to filing the business income tax return (perhaps as late as Sept. 15 of the following year). Thus, a qualified plan need not be in place prior to year-end. 

Downsides 

The provision that will likely have the most meaningful effect on certain taxpayers is the elimination of the “stretch” Individual Retirement Account (IRA). At the moment, stretch IRAs are an immensely popular tool utilized by wealthy individuals and business owners that have sizable retirement account balances. A stretch IRA is an income tax planning strategy that allows for continued tax-deferred growth of an IRA when an IRA is passed down to a non-spouse beneficiary. 

Prior to the SECURE Act, non-spousal beneficiaries had to take required minimum distributions (RMDs) based on their life expectancy, commencing a year after death. Passing the IRA to younger heirs (such as a child or grandchild) could be payable over the life expectancy of the child or grandchild (as much as 30 to 70 years). 

The Act has eliminated the stretch IRA and requires that all inherited IRAs be fully distributed over a 10-year time period no matter the age of the non-spouse beneficiary. The 10-year rule applies where the original IRA account owner dies after Dec. 31, 2019. 

Thus, if a non-spouse were to inherit an IRA, he/she would receive significantly higher distributions over a shorter period and would likely be bumped into a higher marginal tax bracket. For example, under the old regime, a 20-year-old child who inherited a $1 million IRA from a parent would have received a first-year distribution of $15,873. Under the SECURE Act rules, the child would receive a $100,000-per-year distribution (for 10 years). Not factoring any other income, that would bump the individual into a much higher marginal federal income tax bracket. 

It should be noted, however, that anyone who inherited an IRA from an account owner who passed away prior to Jan. 1, 2020, can continue their current distribution schedule. 

Advice/Planning Strategies 

  • Delay IRA distributions, if possible.
  • Consider paying taxes prior to children inheriting the IRA. See example above. One way to “pre-pay” taxes would be to convert a traditional IRA to a Roth IRA, taking a current tax hit. This tax hit could be taken in one year or spread over a period of time. This typically makes sense if the IRS holder's current rate is lower than their or their children’s future rate.
  • Purchase life insurance to replace the wealth lost as a result of the accelerated income tax under the 10-year payout rule and/or lost wealth-building opportunity with the elimination of the life expectancy payout rule. More specifically, for clients with large profit-sharing plans, the purchase of life insurance in the profit-sharing plan (usually second to die) substantially enhances the rate of return for assets in the profit-sharing plan by as much as 500 percent or more. With the requirement that RMDs be withdrawn over a 10-year period, this planning becomes more important than ever, particularly if the taxpayer does not need the funds in the profit-sharing plan for retirement plan to sustain his or her lifestyle.
  • Revisit estate plans. Given this legislation, there are various tweaks that can be implemented to an estate plan to result in tremendous tax savings. For example, it may make sense for the designated primary beneficiary of the IRA to be split between the  spouse and children or even making a charity a significant beneficiary of the IRA or other retirement account. Therefore, the children will start taking smaller distributions at the death of the first parent and then will start the second half at the death of the second parent. As a result, they are stretching their distribution for up to twice as long and will pay less in taxes. For IRAs with a trust as a named beneficiary, the trust may need to be rewritten to comply with the new rules. 
Reprinted with permission of Maurice Kassimir & Associates, P.C.