Contributed by: Robert Ingram, CFP®
It’s hard to believe that we’re nearly two months into the New Year. As people have had some time to digest the SECURE Act, which was signed into law in late December, our Center team has found that many clients are still trying to understand how these new rules could impact their financial plans. While several provisions of the Act are intended to increase retirement savers’ options, another key provision changes the rules for how non-spouse beneficiaries must take distributions from inherited IRAs and retirement plans.
Prior to the SECURE Act taking effect January 1st of this year, non-spouse beneficiaries inheriting IRA accounts and retirement plans such as 401ks and 403(b)s would have to begin taking at least a minimum distribution from the account each year. Beneficiaries had the option of spreading out (or “stretching”) their distributions over their own lifetimes.
Doing so allowed the advantages of tax deferral to continue for the beneficiaries by limiting the amount of distributions they would have to take from the account each year. The remaining balance in the account could continue to grow tax-deferred. Minimizing those distributions would also limit the additional taxable income the beneficiaries would have to claim.
What has changed under the ‘SECURE Act’?
For IRA accounts and retirement plans that are inherited from the original owner on or after January 1, 2020:
Non-spouse beneficiaries who are more than 10 years younger must withdraw all of the funds in the inherited account within 10 years following the death of the original account owner.
This eliminates the non-spouse beneficiary’s option to spread out (or stretch) the distributions based on his or her life expectancy. In fact, there would be no annual required distributions during these 10 years. The beneficiary can withdraw any amount in any given year, as long as he or she withdraws the entire balance by the 10th year.
As a result, many beneficiaries will have to take much larger distributions on average in order to distribute their accounts within this 10-year period rather than over their lifetime. This diminishes the advantages of continued tax deferral on these inherited assets and may force beneficiaries to claim much higher taxable incomes in the years they take their distributions.
Some beneficiaries are exempt from this 10-year rule
The new law exempts the following types of beneficiaries from this 10-year distribution rule (Eligible Designated Beneficiaries). These beneficiaries can still “stretch” their IRA distributions over their lifetime as under the old tax law.
Surviving spouse of the account owner
Minor children, up to the age of majority (however, not grandchildren)
Disabled individuals
Chronically ill individuals
Beneficiaries not more than 10 years younger than the original account owner
What if I already have an inherited IRA?
If you have an inherited IRA or inherited retirement plan account from an owner that died before January 1st, 2020, don’t worry. You are grandfathered. You can continue using the stretch IRA, taking your annual distributions based on the IRS life expectancy tables.
Your beneficiaries of the inherited IRA, however, would be subject to the new 10-year distribution rule.
What Are My Planning Opportunities?
While it still may be too soon to know all of the implications of this rule change, there are number of questions and possible strategies to consider when reviewing your financial plan. A few examples may include:
Some account owners intending to leave retirement account assets to their children or other beneficiaries may consider whether they should take larger distributions during their lifetimes before leaving the account to heirs.
Roth IRA Conversions could be a viable strategy for some clients to shift assets from their pre-tax IRA accounts during their lifetimes, especially if they or their beneficiaries expect higher incomes in future years.
For individuals age 70 ½ or older, making charitable gifts and donations directly from your IRA through Qualified Charitable Distributions (QCD) could be even more compelling now.
Clients with IRA Trusts as part of their estate plan should review their documents and their overall estate plan to determine if any updates are appropriate in light of the this new 10-year rule.
It’s important to remember that your individual situation is unique and that specific strategies may not be appropriate for everyone. If you have questions about the SECURE Act or you’re not sure what these changes mean for your own plan, please don’t hesitate to contact us!
Robert Ingram, CFP®, is a CERTIFIED FINANCIAL PLANNER™ professional at Center for Financial Planning, Inc.® With more than 15 years of industry experience, he is a trusted source for local media outlets and frequent contributor to The Center’s “Money Centered” blog.