The SECURE Act is the most significant legislative action impacting our retirement system in more than 10 years. It affects everything from the withdrawals we’re required to take from our retirement accounts to the way we pass down our wealth to the next generation.
Here are a few of the biggest changes:
- More part-time workers will now have access to a 401(k) plan.
- New parents younger than 59½ can now withdraw up to $5,000 from retirement accounts for birth or adoption expenses without paying a 10% early withdrawal penalty.
- Contributions to your traditional IRA can be made at any age if you’re still working (the window for contributions used to close at age 70½).
- The age for taking your required minimum distributions (or RMDs) rose from 70½ to 72. (For more specifics, read RMDs: When Do I Have to Take One?)
- Those who inherit a retirement account, like an IRA, and are not the account owner’s spouse will be required to withdraw all the money within 10 years. (Some exceptions: the chronically ill, disabled or minor heirs, as well as heirs who are less than 10 years younger than the decedent.)
Perhaps the most notable change listed above is the end of the “stretch IRA.” In the past, an IRA beneficiary who was not the owner’s spouse could stretch out RMDs over his or her own life expectancy. This helped minimize the heir’s tax bill and allowed money to stay in the account longer and grow tax deferred.
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The SECURE Act now requires non-spouse heirs to withdraw all money from the inherited IRA within 10 years following the owner’s death. By taking larger withdrawals from the account over a shorter period of time, non-spouse heirs will face a much bigger tax bill; the money they inherit, combined with their own earned income, could bump them into a higher tax bracket.
Stretch IRAs Are Out; Roth IRAs Are In
With the stretch IRA gone, the Roth IRA is taking center stage. Because the age to take your first RMD has been pushed to 72, you have more time to convert your money to a Roth IRA. Although the elimination of the stretch IRA also applies to Roths, money can be withdrawn tax-free and you can pass your wealth to your heirs tax-free.
Here’s how a Roth conversion might work for you: If you are leaving a $1 million IRA to your two children, the taxes they will pay on that money over the following 10 years could make the IRS your biggest beneficiary. To help avoid that, with proper planning you can take advantage of lower tax brackets as you start converting your traditional IRA to a Roth. First, get your earned income as low as possible. If you are able to delay Social Security until age 70 and avoid tapping into your traditional IRA, you'll have little income to claim on your taxes. This is when it’s best to make conversions. Taxes will be owed on the money that is converted, but depending on your situation, it could lead to lower taxes over your and your heirs’ lifetime.
Review Trust Language
This new retirement law also impacts anyone who has a trust listed as a beneficiary of an IRA or 401(k). Prior to the SECURE Act, many people utilized a “see-through trust” to allow each beneficiary to stretch out the IRA payments over their individual lifetimes, rather than using the oldest beneficiary’s lifetime for the RMD calculations. Because the SECURE Act states that all money must be taken out within 10 years following the owner’s death, it’s important to review your trust’s language with your financial adviser and estate planning attorney to see if your trust still aligns with your intended goals.
This is a good time to sit down with your tax professional, estate planning attorney and financial adviser to determine how the SECURE Act will impact your retirement plan and the legacy you wish to leave for your loved ones. Take time now to evaluate your beneficiaries, consider a conversion of your traditional IRA to a Roth IRA and discuss the option of charitable remainder trusts or direct charitable beneficiaries.
There are a number of options to help you reach your retirement goals, and it’s important to work with the right professionals and have a proper plan in place.