In our last post on the new retirement rules, we talked about new incentives and new laws.
If you missed out, just hit that link above.
Now are you ready to learn a bit more about the new retirement rules?
So in our last post you may have been left wondering, "What will specifically impact me and my plans for retirement?"
Well, here’s the answer and also key 2 of the new retirement rules: You now have more time to save for retirement, more ways to save, and more ways to use the funds!
New Rule: No more age limits for contributing to an IRA
Firstly, there is no more maximum contribution age for Individual Retirement Accounts, or IRAs. Investors may continue contributing to a traditional IRA as long as they have earned income.
Previously, you could only contribute until age 70 ½, when you would be forced to start withdrawing from the account. But as more people continue to work past age 70 and life spans increase, it makes sense that people want to contribute to retirement accounts for a longer period of time.
New Rule: No “forced” IRA spending until 72
I mentioned in our last post that, in the past, savers were forced to withdraw money from their IRAs starting at age 70 ½. Those withdrawals are called Required Minimum Distributions, or RMDs. The SECURE Act pushes those forced distributions to start at age 72.
Now, I want to note that required minimum distributions have been suspended for 2020 as part of the Coronavirus Aid, Relief, and Economic Stimulus Act. So if you’re turning 72 this year, you won’t have to worry about your first distribution. But we all hope things will be back to normal by 2021, and your required withdrawals will begin next year.
This gives your money 18 more months with the potential to grow tax-free. However, building up large IRAs means larger RMDs in the future, which can have tax consequences when it’s time to start drawing down your retirement assets.
New Rule: 401(k) plans for part-time workers
Next we have some good news for part-time workers who also want to save for retirement. Employers with a 401(k) plan must allow employees who have worked at least 500 hours for 3 consecutive years, or 1,000 hours throughout the year, to contribute to the plan.
This is especially good for some women who may work part-time for caregiving reasons and often have fewer retirement savings.
I'm sorry to say, this new legislation applies to plan years beginning in 2021, but the employer doesn't have to start "counting" the 500-hour-per-year until 2021, so employees might not be eligible until 2024. If you are a part-time employee, check with your employer about how they will be handling the new rules.
New Rule: Penalty-free IRA withdrawal for new children
Now, this next rule change deals with how you take money out of your savings plans. New parents may each withdraw up to $5,000 penalty-free from a retirement account for a qualified birth or adoption. Normally there is a 10% early withdrawal penalty for people under the age of 59 ½.
To meet the requirements, the individual must take a distribution from the retirement account within one year of either the date of birth or the date on which the adoption of an individual under the age of 18 is finalized.
Even though there will be no penalty, you may still owe taxes on the money withdrawn. And, of course, it means less savings for retirement. So be sure to talk to a financial advisor to see if withdrawing this money is a good move based on your overall financial plan.
New Rule: Graduate and post-doc students eligible for IRA contributions
Not only can older workers continue contributing to IRAs, but more younger earners can start contributing with an expanded definition of "earned" income. Stipends and non-tuition fellowship payments to graduate and postdoctoral students count as earned income, and that means the students can contribute to IRAs.
This is good news for students who want to begin accumulating tax-favored retirement savings. In many cases, graduate study keeps them too busy for a job that might offer a 401(k) or other employer savings plan.
New Rule: Use of 529 accounts to pay off student loans
This rule change doesn't actually have to do with retirement accounts, but it is something that may help more people be able to save for retirement. Investors who have a 529 education savings plan can now withdraw up to $10,000 dollars to repay student loans.
We all know that student loan debt is a crisis in America. Hopefully this new provision will bring relief to some savers and allow them to put less money toward student debt and more toward retirement savings.
A related change is that 529 plan monies can also be used for apprenticeship programs, as long as they are registered with the Department of Labor. Some kids don't go to college or university, but still need money to finish their education. Now they can use the 529 plans their families may have already funded.
And in case you didn't know or had forgotten, the Tax Cuts and Jobs Act of 2017 also broadened the use of 529 plans, allowing at $10,000 per year withdrawal to cover private K-12 education.
New Rules: No more credit cards attached to 401(k) plans
Our last rule change in the second key is one you might not have even known about. Some employer retirement plan providers would offer plan loans through credit cards, generally a bad idea. Now that is prohibited. Retirement plans are meant for saving, and you should have a good reason to withdraw the funds, not make routine purchases.
We want to leave it to the kids. Is that still allowed in the new rules?
Okay. Undoubtedly there are some of you in the audience who have already accomplished saving enough for retirement. Kudos to you. Now you're starting to think about the next generation and estate planning and wondering, "What do we need to know about leaving our IRAs to our kids? Is that still allowed in the new rules?"
Unfortunately, the news here isn't so good.
Our third key point is: Your kids can still inherit your IRA, but they can only defer taxes for up to 10 years.
So, not only are your retirement savings affected, but “the Death of the Stretch IRA” requires a review of your estate plan thinking.
New Rule: Time limit for inherited accounts, including Roth IRAs
With certain exceptions, which we'll see in a moment, beneficiaries of IRAs (including Roth IRAs) must liquidate the accounts within 10 years.
Previously, IRA owners were encouraged to have younger beneficiaries because they could "stretch" out the distributions over the beneficiaries' lifetimes, allowing for longer tax-free growth. Some heirs even planned to use the accounts for their own retirement. Now they must take out the money within 10 years of the death of the original owner.
This could have major repercussions for the beneficiary. When they withdraw that money, they will have to report it as income tax and pay taxes. This could also affect the FAFSA if they have children applying for college financial aid, and possibly limit their ability to claim certain tax credits.
There is no rule about how to draw down the account, as long as it is gone within 10 years. So the beneficiary could take out some each year for 10 years, or none at all for 9 years and then everything in the 10th year. Planning is definitely needed and this should include consulting your tax accountant.
Exceptions to the new 10-year rule
As I said before, there are some exceptions to the 10-year rule, or what the IRS calls "eligible designated beneficiaries."
In that last case, the 10-year clock starts when they reach majority, and doesn't include grandchildren or other relatives of the original IRA owner.
For all of these eligible designated beneficiaries, the "stretch IRA" is mostly business as usual. The new rule also does not apply to people who have already inherited an IRA, only those inherited in 2020 or later.
Lesson from "Death of the Stretch": Tax planning is more important than ever
The real lesson from all of these changes, particularly the "death of the stretch IRA," is that tax planning is more important than ever. Congress is looking for ways to increase revenue, and one way to do that is to eliminate tax breaks. We may see other changes before the time comes for you to retire or pass on your estate.
For many years, even decades, people were told to rely on IRAs. And many Americans listened, to the point where, helped by a 10-year bull market, they have a lot of money invested in these tax-deferred accounts. The problem is, one day the tax bill will come due, and you can't predict what the tax law will be when it does.
What are my next steps?
Hopefully I’ve conveyed to you the importance of the new retirement rules brought by the SECURE Act and you can see that this legislation is something that actually affects your life.
Everyone's situation is unique and requires personal discussion.
As I've said, I'm not a tax professional and I don't give tax advice. But I can look at your investments and savings and help you plan ahead. Taxes in retirement are a much bigger issue than many realize. I can help you develop a retirement income plan so that you draw down your accounts in a tax-smart way.
Some of our strategies might include Roth conversions, managing your tax brackets, reviewing your beneficiaries – including trusts – and creating an estate plan that makes the best sense for everyone in your life.
If you are looking for someone to help with your retirement plans and help to navigate the waters, shoot me an email at firstname.lastname@example.org!
Advisory services through Capital Advisory Group Advisory Services LLC and securities through United Planners Financial Services of America, a Limited Partnership. Member FINRA and SIPC. The Capital Advisory Group Advisory Services, LLC (CAG) and United Planners Financial Services are not affiliated.
The views expressed are those of the presenter and may not reflect the views of United Planners Financial Services. Material discussed is meant to provide general information and it is not to be construed as specific investment, tax, or legal advice. Individual needs vary & require consideration of your unique objectives & financial situation. Neither United Planners nor its financial professionals render legal or tax advice. Please consult with your accountant or tax advisor for specific guidance.