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The Nine Most Dangerous Words For Your IRA?

“I’m From The Government And I’m Here To Help” (Your IRA?)

Nearly 35 years ago, Ronald Reagan, the 40th President of the U.S., said that the nine most terrifying words in the English language are “I’m from the government and I’m here to help.”  Well, the government is at it again, trying to “help us” with new legislation, this time signing into law sweeping changes to retirement savings. The law is intended to positively impact American’s ability to save but it also includes an unfavorable change for many planning to leave a retirement nest egg to their beneficiaries.

All SECURE? Not So Fast!

The Setting Every Community Up for Retirement Act, or SECURE Act, was signed into law by Congress in late December 2019. The Act includes wide-ranging changes to retirement savings and affects many preparing for retirement. Parts of the Act will have a positive impact on American’s ability to save for retirement however beneficiaries of the new law are also the IRS and insurance industry.  Importantly, one anti-taxpayer element eliminates a commonly used, important financial planning tool which I will address.

Since many provisions of the Act are not likely to apply to most, I will spare you the minutia and not include it in this newsletter. However, I believe there are three provisions in the Act that are relevant to many retirement plan participants.

What the government is giving with one hand, it’s taking with the other  

First (& most important), upon the death of the IRA account owner, individual beneficiaries of the account must now take required minimum distributions (RMDs) from the account within 10 years. Before the Act, someone inheriting a retirement plan account could generally take RMDs over their expected lifetime. For some beneficiaries, this could “stretch” out distributions for many decades, thereby extending the retirement plan’s tax deferral benefit.   With this anti-taxpayer provision, however, accounts of retirement plan owners who die after December 31, 2019 will generally need to be distributed within 10 calendar years.

Thankfully, the Act does not have distribution requirements within those 10 years, so beneficiaries have flexibility with the timing of distributions depending on annual income levels and overall tax planning needs.  For example, a beneficiary could choose not to take distributions in years 1 through 8, instead delaying all distributions until the final 2 years when tax bracket levels are expected to be more forgiving.

 There are four groups of beneficiaries who are exempt from the new 10-year distribution rule. Those who can continue to “stretch” retirement plan distributions are: Surviving spouses, disabled and chronically ill individuals, individuals not more than 10 years younger than the account owner and minor children of the plan owner but only until they reach the age of majority (typically 18 or 21 years old).

There is a second, albeit modest, positive change with the Act.   For retirement plan owners not yet 72 years old, RMDs from retirement plans will now begin at age 72 rather than age 70 ½. This change will only affect you if you turn 70 ½ in 2020 or later.

A third and also modest positive change with the Act is you are now allowed to contribute to your traditional IRA in the year you turn 70 ½ and beyond, if you have earned income (i.e., you worked during the year). This is meant for people who work longer to continue saving and investing for retirement while also giving more time to consider a Roth conversion. 

Be More Flexible With No Stretching

Although it’s disappointing that Congress switched the rules on us, it’s not a shocking development. The most time-sensitive part of the Act for investors is the limit on stretching out inherited IRA distributions.  However, with adequate planning, one can lessen the impact of the no-stretch distribution provision.  Planning steps to consider include dividing retirement accounts among numerous beneficiaries which can reduce the risk that income over a 10-year period will push a beneficiary into a higher tax bracket. Also, Roth conversions may be a wise move since you may pay taxes via the conversion now at a lower rate than you expect your beneficiaries will pay.