HCA Client Alert – SECURE Act

Jan 24, 2020

The SECURE Act (officially the “Setting Every Community Up for Retirement Enhancement Act of 2019”) was signed into law on December 20, 2019. This law changed a number of retirement-related and other tax provisions. The legislation is very new and there are sure to be many commentaries, analyses, and eventually regulations interpreting it. Our goal at this point is simply to make you aware of some basic provisions of this new law that are likely to be of interest.

Partial Elimination of the Inherited Stretch IRA.
Before the SECURE Act, an individual beneficiary who inherited an IRA upon the death of the original owner generally had the option to withdraw IRA assets gradually over the course of the beneficiary’s own life expectancy, which was referred to as the ability to “stretch” the IRA. This was not the only available option but was usually the most advantageous from an income tax perspective. It gave the beneficiary the ability to stretch out receipt of the IRA assets, which are subject to income tax when received, and maximized the opportunity for the remaining assets to continue to grow tax-free. While a great benefit to IRA beneficiaries, this practice was expensive for the government and had been a legislative target for years. With passage of the SECURE Act, most individual beneficiaries who inherit an IRA will now be required to withdraw all the assets within 10 years after the year of the original owner’s death. Within the 10-year period, the beneficiary can decide when and at what rate to withdraw the assets, but the IRA must be exhausted by the end of the period. This accelerates and compresses the time at which a beneficiary must pay income tax on the assets and decreases the opportunity for the assets to continue to accumulate tax-free. Individuals who qualify as “eligible designated beneficiaries” do not fall within the 10-year rule and can continue to follow the prior rules, with some tweaks. Eligible designated beneficiaries include the surviving spouse of the IRA owner; a minor child of the owner (who will become subject to the 10-year rule upon reaching the age of majority, or as late as age 26 if the child is pursuing a “specified course of education”); an individual who is disabled or chronically ill; or an individual who is less than 10 years younger than the IRA owner. These new rules, which apply to inherited Roth IRAs as well as traditional IRAs, are effective for accounts inherited from any individual dying after Dec. 31, 2019. They do not affect IRAs inherited from individuals who died in 2019 or earlier, but they will apply to the eventual successor beneficiaries of a current inherited IRA owner.

Elimination of Age Restriction on Traditional IRA Contributions.
Prior to the SECURE Act, contributions to a traditional IRA (but not a Roth IRA or most other retirement plans) were prohibited after age 70 ½. The SECURE Act eliminates this restriction so that individuals can continue to contribute to traditional IRAs so long as they have compensation, which generally means earned income.

Extended Beginning Date for Required Minimum Distributions to 72.
The SECURE Act raises the age at which a person must begin taking required minimum distributions (RMDs) from a traditional IRA from 70-½ to 72. Similar to the prior rule, the owner must either (i) take the first RMD in the year they turn 72 or (ii) choose to delay until April 1 of the following year, resulting in the requirement of taking two RMDs that year.

Age to Make Qualified Charitable Distributions (QCDs) is Unchanged.
An IRA owner who is at least 70-½ can make a distribution from their IRA directly to charity and the distribution can satisfy the owner’s RMD while being excluded from their adjusted gross income – this is called a “qualified charitable distribution” or “QCD” and the 70-½ age qualification remains unchanged. Although one of the benefits of making a QCD is the opportunity to fulfill an IRA owner’s RMD requirement without producing taxable income, a person who is 70-½ and will not be required to begin taking RMDs until age 72 can make QCDs in the interim and still obtain the benefit of the exclusion from income. However, if the owner has taken advantage of the new opportunity to continue making IRA contributions after age 70 ½, those contributions will reduce the availability of the income exclusion. This starts to get complicated; if you expect to be in this situation, please contact our office or your accountant.

Early Withdrawal Permitted for Expenses of Adoption or Childbirth.
The SECURE Act authorizes the withdrawal of up to $5,000 from an IRA without an early withdrawal penalty if made within one year after the birth or finalization of the adoption of a child. Each spouse has the separate right to make such a withdrawal from his or her own account, so a married couple can withdraw up to $10,000.

Use of 529 Plans to Repay Student Debt.
The definition of qualified education expense has been expanded to include amounts expended for student loans and apprenticeships. Funds in a 529 plan may now be used to pay the principal and/or interest of qualified education loans, with a lifetime limit of $10,000 per person. In addition to repaying loans of the plan beneficiary, an additional $10,000 can be used as qualified loan repayment for each sibling of the beneficiary. This provision is retroactive to the beginning of 2019.

Kiddie Tax Reverts to Prior Rule.
Prior to 2018, most unearned income of minor children was taxed at their parents’ highest marginal tax rate (commonly known as the “kiddie tax”). The 2017 tax act changed this rule and taxed children’s unearned income at the rates applicable to trusts and estates, often resulting in higher taxes. The SECURE Act repeals this change, returning to the prior kiddie tax regime. For tax years 2018 and 2019, taxpayers can choose which rule they want to follow. People who have filed a 2018 tax return that is affected should consider whether filing an amended return is warranted.

7.5% of AGI Floor for Deducting Medical Expenses is Restored for 2019 and 2020.
The limit for deductibility of medical expenses, which was scheduled to rise to 10% of adjusted gross income (AGI) for 2019, has been reduced to 7.5% once again, so individuals with medical expenses that exceed 7.5% of their AGI may be eligible to claim an itemized deduction for the excess in 2019 and 2020.

Provisions Regarding Small Business Retirement Plans.
The SECURE Act also contains an array of provisions aimed at expanding retirement coverage for employees of small businesses, including liberalization of rules governing “multiple employer plans”; encouragement for inclusion of annuity options in certain retirement plans; expansion of 401(k) eligibility to certain part-time employees; and changes to 401(k) safe harbor rules. Please let us know if you are interested in learning more about those provisions.

Many provisions of the SECURE Act are likely to be beneficial to taxpayers. However, the provisions eliminating the stretch IRA option are intended to raise tax revenue and will disadvantage affected taxpayers. People who have planned on leaving retirement plan benefits to the next generation when they die may find that their current planning is no longer well-tailored to their goals. This is particularly true for those who have designated trusts as beneficiaries of their IRA or 401(k) or who have chosen particular beneficiaries specifically in order to take advantage of the stretch provisions which have now been curtailed. It will be important in the coming months to check your beneficiary designations and confer with your estate planner to determine whether the current disposition of your retirement plans should be revised.

If you have questions about any of the issues addressed in this notice, please do not hesitate to get in touch. I would be happy to talk to you about them in more depth.

Elizabeth R. Hefferon
Harbour Capital Advisors, LLC
Office: 703.992.6487
Fax: 703.991.2524

Harbour Capital Advisors, LLC (“HCA”) is neither an attorney nor an accountant, and no portion of the content provided herein should be interpreted as legal, accounting, or tax advice. The tax information contained herein is general in nature and is provided for informational purposes only. HCA does not provide legal, tax, or accounting advice. HCA cannot guarantee that such information is accurate, complete, or timely. Laws of a particular state or laws which may be applicable to a particular situation may have an impact on the applicability, accuracy, or completeness of such information. Federal and state laws and regulations are complex and are subject to change. Changes in such laws and regulations may have a material impact on preand/or after-tax investment results.