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Key provisions of the SECURE Act retirement plan legislation
March 2, 2020 at 10:30 AM

This is the first in a four-part blog series on the Setting Every Community Up for Retirement Enhancement Act (SECURE Act). Future installments will cover more details on the impact of the SECURE Act on estate plans, minimizing the tax burden of the act’s 10-year payout, and how it affects Qualified Charitable Deductions.

The following overview of the SECURE Act is adapted from a summary by Thomson Reuters’ RIA Checkpoint.

Congress recently passed, and President Trump signed into law, the SECURE Act, landmark legislation that may affect how you plan for retirement. Most of the provisions went into effect in 2020, which means now is the time to consider how these new rules affect your estate and tax planning.

Below is a summary of some of the key provisions of the SECURE Act affecting individuals.

Partial elimination of the stretch. If the death of a plan participant or IRA owner occurred before 2020, beneficiaries (both spousal and nonspousal) were generally allowed to stretch out the tax-deferral advantages of the plan or IRA by taking distributions over the beneficiary’s life expectancy (this is called a “life expectancy payout” or “stretch”).

However, if the plan participant or IRA owner dies on or after Jan. 1, 2020 (later for some participants in collectively bargained plans and governmental plans), distributions to most nonspouse beneficiaries are generally required to be distributed within 10 years following the plan participant’s or IRA owner’s death. So, for those beneficiaries, the “stretching” strategy is no longer allowed. This maximum 10-year payout applies to most retirement accounts, including all IRAs (traditional, Roth, SEP, SIMPLE, etc.) and most qualified plans (401(k)s, Roth 401(k)s, 403(b)s, etc.).

Exceptions to the 10-year rule are allowed for distributions to “eligible designated beneficiaries.” Eligible designated beneficiaries include only (1) the surviving spouse of the plan participant or IRA owner; (2) a child of the plan participant or IRA owner who has not reached majority; (3) a chronically ill or disabled individual; and (4) any other individual who is not more than 10 years younger than the plan participant or IRA owner. Those beneficiaries who qualify under one of these exceptions may generally still take their distributions over their life expectancy (as allowed under the rules in effect for deaths occurring before 2020). In the case of a minor child, the 10-year rule would apply when the child reaches majority. There is some ambiguity as to when a child reaches “majority” that we hope the IRS will clarify.

Repeal of the maximum age for traditional IRA contributions. Before 2020, traditional IRA contributions were not allowed once the individual attained age 70½. Starting in 2020, the new rules allow an individual of any age to make contributions to a traditional IRA so long as the individual has compensation, which generally means earned income from wages or self-employment.

Required minimum distribution age raised from 70½ to 72. Before 2020, retirement plan participants and IRA owners were generally required to begin taking required minimum distributions (“RMDs”) from their plan by April 1 of the year following the year they reached age 70½. The age 70½ requirement was first applied in the retirement plan context in the early 1960s and, until recently, had not been adjusted to account for increases in life expectancy. Beginning in 2020, the age at which an individual must begin taking distributions from their retirement plan or IRA is increased from 70½ to 72. Those who turned 70½ before Jan. 1, 2020 will take their RMDs as required prior to the SECURE Act.

Expansion of Section 529 education savings plans. A Section 529 education savings plan (also known as a qualified tuition program) is a tax-exempt program established and maintained by a state, or one or more eligible educational institutions. Any person can make nondeductible cash contributions to a 529 plan on behalf of a designated beneficiary. The earnings on the contributions accumulate tax-free. Distributions from a 529 plan are excludable up to the amount of the designated beneficiary’s qualified higher education expenses.

Before 2019, qualified higher education expenses did not include the expenses of registered apprenticeships or student loan repayments. However, for distributions made after Dec. 31, 2018 (the effective date is retroactive), tax-free distributions from 529 plans can now be used to pay for fees, books, supplies, and equipment required for the designated beneficiary’s participation in an apprenticeship program. In addition, tax-free distributions (up to $10,000, per individual) are allowed to pay the principal or interest on a qualified education loan of the designated beneficiary, or a sibling of the designated beneficiary.

Kiddie tax changes for gold star children and others. In 2017, Congress passed the Tax Cuts and Jobs Act (“TCJA”), which made changes to the so-called “kiddie tax,” which is a tax on the unearned income of certain children. Before enactment of the TCJA, the net unearned income of a child was taxed at the parents’ tax rates if the parents’ tax rates were higher than the tax rates of the child.

Under the TCJA, for tax years beginning after Dec. 31, 2017, the taxable income of a child attributable to net unearned income would be taxed according to the brackets applicable to trusts and estates, resulting in the highest tax rate being applied at a much lower income threshold than for individuals. Children to whom the kiddie tax rules applied and who had net unearned income would also have a reduced exemption amount under the alternative minimum tax (“AMT”) rules.

There had been concern that the TCJA changes unfairly increased the tax on certain children, including those who were receiving government payments (i.e., unearned income) because they were survivors of deceased military personnel (“gold star children”), first responders, and emergency medical workers.

The new rules enacted on Dec. 20, 2019, repeal the kiddie tax measures that were added by the TCJA. So, starting in 2020 (with the option to start retroactively in 2018 and/or 2019), the unearned income of children is taxed under the pre-TCJA rules, and not according to the trust and estate tax brackets. And starting retroactively in 2018, the new rules also eliminate the reduced AMT exemption amount for children to whom the kiddie tax rules apply and who have net unearned income.

Penalty-free retirement plan withdrawals for expenses related to birth or adoption. Generally, a distribution from a retirement plan must be included in income. And, unless an exception applies (for example, distributions in case of financial hardship), a distribution before the age of 59½ is subject to a 10 percent early withdrawal penalty on the amount includible in income.

Starting in 2020, plan distributions (up to $5,000) that are used to pay for expenses related to the birth or adoption of a child are penalty-free. That $5,000 amount applies on an individual basis, so for a married couple, each spouse may receive a penalty-free distribution up to $5,000 ($10,000 per couple) for a qualified birth or adoption.

Please contact someone in our Trusts & Estates Practice Group if you would like more information regarding the SECURE Act and how it may affect your planning.

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