On December 20, 2019, President Trump signed the Setting Every Community Up for Retirement Enhancement Act (SECURE Act). The Act is the most impactful legislation affecting retirement accounts in decades and has several positive changes.
It increases the required beginning date for required minimum distributions from your individual retirement accounts from 70 ½ to 72 years of age and eliminates the age restriction for contributions to qualified retirement accounts. However, the most significant change will affect the beneficiaries of your retirement accounts. For beneficiaries who inherit IRAs beginning in 2020, the SECURE Act requires most non-spouse beneficiaries to withdraw the entire balance of their inherited account within 10-years of the account owner’s death.
Now that the “dust has settled” and after taking some time to review and discuss the SECURE Act with fellow colleagues, it is clear that there are several issues that retirement account owners now need to consider when designating a non-spouse beneficiary.
Creditor Protection Issues. All withdrawals from an inherited IRA owned by a beneficiary will be subject to the beneficiary’s creditors and third-party claims. In addition, the beneficiary will have the power to leave the IRA (and all withdrawals) to any person, without restriction.
Planning Tip: Name an Inheritance Trust as beneficiary of your IRA. Under this scenario, all withdrawals from an inherited IRA owned by a beneficiary through an Inheritance Trust can be maintained within the Trust and will be protected from the beneficiary’s creditors and third-party claims. In addition, the Trust language can dictate how the IRA and any remaining assets (including all withdrawals) will pass at the beneficiary’s death (e.g. to remain in the family “bloodline”).
Income Tax Issues. Under the old law, non-spouse beneficiaries of inherited retirement accounts could take distributions over their individual life expectancy. Under the SECURE Act, the shorter 10-year time frame for taking distributions will result in the acceleration of income tax due, possibly causing your non-spouse beneficiaries to be in a higher income tax bracket and receive less of the funds than you may have originally anticipated.
Planning Tip 1: If you pass along a traditional IRA to your non-spouse beneficiaries, make sure they have a plan in place for withdrawals to avoid a big tax bill. Your beneficiaries can choose the tempo of their distributions – a little bit every year for 10 years, all at once or some other pace. That gives them flexibility in managing their tax bill each year.
Planning Tip 2: Although Roth IRA’s are also subject to the accelerated 10-year payout rule under the SECURE Act, traditional IRA owners may want to consider a Roth conversion during life if they plan on leaving their IRA to a non-spouse beneficiary. With a conversion, the IRA owner would pay income tax at his or her income tax rate, but the distributions would pass income-tax free to the non-spouse beneficiary upon withdrawal.
Estate Tax Issues. An inherited IRA and all withdrawals from the IRA owned by a beneficiary will be included in the beneficiary’s taxable estate at death. Although the current estate tax exemption for individuals is $11.58 Mil. (scheduled to reduce to $5.6 Mil. in 2026), this could be an issue for beneficiaries with large estates, or if Congress lowers the exemption.
Planning Tip: Name a “generation-skipping exempt” Inheritance Trust as the beneficiary of your IRA. Under this scenario, an inherited IRA and all withdrawals from an IRA owned by a beneficiary through an Inheritance Trust will be exempt from Estate Tax at the beneficiary’s death, up to the applicable generation-skipping tax exemption.
Although your Estate Planning documents may already incorporate some of the recommendations discussed in our Planning Tips, it is always a good idea to have your documents reviewed periodically, due to changes in your family situation. We are available now to work with you to review your existing Estate Plan and beneficiary designations and answer your questions about the SECURE Act. Please call our office at (972) 960-1003 to schedule an appointment.