President Trump signed into law the ‘Setting Every Community Up for Retirement Enhancement’ Act (SECURE Act) on December 20, 2019. It became effective on January 1, 2020. The SECURE Act is considered a part of the government’s spending bill and will affect retirement savers inevitably.
The legislation puts into place several provisions that are designed to strengthen retirement security across the country. It also includes several common-sense reforms that are considered long overdue. These reforms are designed to make retirement more accessible and easier for many Americans.
The SECURE Act also implemented widespread changes that will have an instant effect on the estate plans of almost all individuals and their families. Knowing the recent changes is vital so you can create a robust estate planning strategy.
While several of the provisions are taxpayer-friendly, some changes in the rules that apply to inherited retirement accounts might result in much higher taxes paid.
Under the old rules, a retirement account beneficiary will be able to take annual required minimum distributions (RMDs) that will be based on their life expectancy. The SECURE Act has eliminated the ability to “stretch” distributions over a long period of time for IRA owners who pass away after December 31, 2019. Full distribution is now required for an IRA within 10 years of the participant’s death.
In the act, there are four categories of beneficiaries called “eligible designated beneficiaries.” While the benefit is only temporary, these eligible designated beneficiaries will still be able to take distributions from the retirement accounts over their life expectancies.
Participants have the option to leave retirement assets to a surviving spouse directly. If they wish, they can also leave it to a trust for their benefit. When left to a spouse, the spouse will have the option to roll the account over into their own IRA.
Another option would be to leave it as an inherited IRA and just take distributions over their life expectancy. Under the SECURE Act, those rules have remained the same. For many, leaving the IRA directly to the surviving spouse makes a lot of sense.
However, some people are more comfortable leaving their retirement assets to a trust for a spouse. This is done to provide protection against subsequent marriages and creditors. It is also done to ensure the assets are preserved for the children of the participant.
Under the new rules, the spouse has the option to take distributions over their life expectancy given that the trust requires all distributions from the retirement account to be distributed out of the spouse’s trust.
In addition, individuals will have to choose between maximizing protection for the asset or maximizing tax deferrals as it is no longer possible to accomplish both.
Beneficiaries who are less than 10 years younger than the retirement account owners have the option to stretch distributions over their life expectancy. However, this is only allowed when the asset that is received outright or in a trust will require all IRA distributions to be distributed out of the trust to the beneficiary.
Chronically ill or disabled beneficiaries have the option to stretch distributions coming from retirement accounts over their life expectancies. This is regardless if they received the assets in a trust or outright. The trust’s only requirement is that the chronically ill or disabled individual is the only lifetime beneficiary of the trust.
By far, this is one of the most generous provisions under the SECURE Act as it allows families to provide security for these kinds of beneficiaries in a manner that is tax-efficient.
The participant’s minor children have the option to take distributions from the IRA based on their life expectancy given the IRA is left to them outright. The same also applies if the IRA is left in a trust that requires all the IRA distributions to be distributed out of the child’s trust. A trust that does not have a similar requirement will be subjected to the 10-year distribution.
1. While the SECURE Act has a significant impact on the estate plans of numerous families, only a few planning options are available under the new rules. With that said, several scenarios will require a second look at your estate plan as well as the exploration of other potential options.
Individuals in their second or third marriages who leave their IRAs to a trust for their surviving spouse (to protect the asset for their children from a previous marriage) might want to reconsider the arrangement. As stated earlier, retirement account users will have to choose between deferring the taxes or protecting the IRA in trust.
Individuals who want to protect the assets in the trust will have to consider if the financial independence of the surviving spouse will be affected by the decreased value of the IRA due to the taxes.
For those in a similar situation, planning can involve focusing on the replacement of the lost tax dollars or reallocation of the assets under the estate plan. This is done so the IRA can pass them to the surviving spouse and maximize tax deferral while still providing enough funds for the remaining beneficiaries.
2. Individuals with trusts that will require distributions to be received by the trust from an IRA (to be distributed out of the trust to the beneficiaries) might want to revisit the trust provision.
Essentially, the requirement was added to ensure the trust can reach distributions from the IRA over the life expectancy of the beneficiary. Apart from trusts for eligible designated beneficiaries, this provision no longer has said advantage and will now have the entire IRA distributed out to the beneficiary within 10 years.
This not only takes asset control out of the hands of the trustee, but it also significantly diminishes the protection the trust affords.
3. IRA owners that have put time and effort to design a plan revolving the ability to stretch IRA distributions (over the beneficiaries’ life expectancies) might want to look into their plans again. Revising their plan is important so they can gauge if they can still accomplish their goals under the new SECURE Act rules.
Learn how your spouse and heirs could have been negatively impacted if your estate plan hasn't been updated to reflect the new laws. Find out what the new regulations did to open 6 estate planning "wormholes" in our downloadable PDF.
Some IRA owners may have opted to create separate retirement benefit trusts. This can sometimes take longer than necessary. Some owners may also have included trust provisions that have not been ideal but provided maximum tax deferrals.
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