The SECURE Act: 4 Key Changes Advisors Need to Know About
Introduction
At the end of last year, Congress passed the SECURE Act as part of the year-end appropriations bill and introduced some big changes to the retirement system in the U.S.
Many people saving for retirement probably will not notice anything all that different. However, financial advisors need to be aware of four key changes, particularly for clients near retirement.
1. 'Pay For' Provisions Pull the Elasticity out of Stretch IRAs
Some provisions in the SECURE Act will cost the government money by (hopefully) increasing tax-deferred retirement savings and by offering new tax credits to businesses. To pay for this, Congress is ending the so-called stretch IRA, which allowed most heirs who inherit a traditional IRA or other defined-contribution account to get a tax break by stretching withdrawals over their lifetime.
To raise about $1.5 billion a year over the next 10 years, Congress will now require most people, other than spouses or disabled children, to withdraw their inherited IRA balance within 10 years. These beneficiaries will be allowed to defer the withdrawals for 10 years or take them incrementally, which might help keep them in a lower tax bracket. In contrast, under the old system, when a 40-year-old inherited an IRA, his required minimum distribution was just 2.29% at the end of the year, based on his 43.6-year life expectancy. These changes mostly go into effect immediately, with a few exceptions.
Financial advisors will need to help their clients rethink their bequest plans, given this new reality.
2. Required Minimum Distributions Have Been Pushed Back
As I’ve written before, new rules slide back the age at which retirees must take money out of their traditional 401(k) or IRA accounts from 70.5 to 72. The extra year-and-a-half will make a lot of people happy, and requiring distributions to start at a half-birthday has always been confusing.
Given how little controversy this attracted, it’s reasonable to expect that this change will be followed by more. The IRS is moving ahead with changes that will further reduce required minimum distributions (RMDs) for most people, and Congress may further push out RMDs in the next retirement bill, as Senators Rob Portman and Ben Cardin have proposed.
This change opens some additional options financial advisors will need to guide their clients through, particularly given the changes to the stretch IRA. The extra years to delay RMDs might make some Roth conversions more attractive while a retiree’s income is not being increased by RMDs.
3. The Maximum Age for Traditional IRA Contributions Is Gone
Another change that financial advisors should be aware of is the end of age limits on contributions to traditional IRA accounts. Now that individuals can make contributions to traditional IRAs after age 70.5, advisors might want to direct clients with earned income and plenty of resources to do so. Of course, since Roth IRAs never had an age cap, and these accounts may be more attractive for retirees with extra money they wish to invest in a retirement account, this may not make that big a difference.
This change also may matter for people who are still working, although even before this change they could have contributed to a workplace retirement account. Still, this opens up the possibility of contributing to an IRA instead of or potentially alongside a workplace account contribution.
4. A New Way to Pay for Expenses for Births or Adoptions
Among a laundry list of items approved as part of the SECURE Act was a provision that would allow people to take up to $5,000 out of an IRA or defined-contribution plan for expenses for the birth or adoption of a child without paying a penalty. After taxes, this will probably be closer to $3,500 to $4,000, although that depends on the participant's income and marginal tax rate. Importantly, spouses could each tap their own retirement accounts, doubling these figures.
The law also allows this money to be paid back to an eligible retirement account, which may make this new way to access retirement account assets for nonretirement purposes more attractive. Other ways of accessing IRA assets cannot be repaid. Similarly, outside of 401(k) loans, other workplace withdrawals also cannot be repaid.
Financial advisors will need to help their clients think through whether accessing these funds might make sense, or whether having access to them makes contributing to a retirement account before having kids more attractive. For higher-net worth clients or those past starting families, this may not matter as much, but it’s important to be aware of this new form of retirement leakage. Advisors also may have future clients who’ve previously taken advantage of the withdrawal provision; advisors should look for these opportunities for clients to recontribute and advise accordingly.
Concluding Thoughts
Many of the most high-profile parts of the SECURE Act, such as the annuity safe harbor and the expansion of pooled employer plans, will not directly affect most financial advisors, unless they work with 401(k) plan sponsors. Over time, these provisions may shift the U.S. retirement landscape, but for now, the provisions detailed above are the most important to understand as they will affect financial advisors’ clients immediately.
Disclosures
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