By Daniel Jones, CPA, CFP®, CRPC®
Senior Financial Advisor for Cooper/Haims Advisors LLC, an ESL subsidiary
Many say there is a looming retirement savings crisis in the U.S. According to the most recent Federal Reserve research, the median retirement account balance in the U.S. was just $60,000. For workers looking to maintain their lifestyle into retirement, the current median is far less than what’s needed to adequately support most retirees. To assist retirement savers, lawmakers recently enacted the SECURE Act aimed at easing the process of saving for retirement.
Here are some of the major changes you should know:
What is the SECURE Act?
The SECURE Act stands for Setting Every Community Up for Retirement Enhancement and took effect January 1, 2020. The new SECURE Act contains many updates, with changes affecting millions of Americans, their IRAs and 401(k)s. It’s best to talk with a trusted financial or tax professional about how the SECURE Act may affect your individual savings strategy.
How Changes Could Affect Those In or Near Retirement
Delay of Required Minimum Distributions (RMDs)
Previously, holders of an IRA were mandated to take RMDs from their accounts beginning at age 70 ½. Effective January 1, 2020, the RMD age is now age 72 for individuals who turn 70 ½ in 2020 or later. This change affects those with larger retirement account balances who are required to take a minimum distribution from their accounts but do not currently need the income. The reality is most retirees take more than the required minimums each year, as their savings are used to pay for ongoing expenses. Despite the delay in the age at which RMDs must commence, there is no change to the rules allowing qualified charitable distributions. Thus, planning opportunities remain for charitably inclined individuals.
Elimination of “Stretch IRAs”
Perhaps one of the most significant changes the SECURE Act brings is elimination of the so-called “stretch” IRA for most beneficiaries of IRA assets. Before the SECURE Act, most non-spouse beneficiaries could draw down their inherited IRAs over their life expectancy. In general, inherited IRAs under the SECURE Act must now be fully distributed within 10 years. There are exceptions for certain beneficiaries, including spouses and minor children of the account owner, among others. For retirees or those near retirement, this may create additional planning needs alongside a trusted financial professional. Tax efficiency and estate planning goals (especially when a beneficiary is a trust) should be analyzed. Investors should consider reviewing who their designated beneficiaries are and how a 10-year drawdown may affect their plans.
Contribution Age Limit Removed
Lawmakers eliminated age restrictions on contributions to a Traditional IRA beyond age 70 ½. As long as there is earned income from wages or self-employment, individuals can now continue to make contributions to a Traditional IRA, should they choose. As many workers delay retirement, or continue to work part-time to supplement their income, having the ability to continue contributing to their retirement savings can be a welcome change and help their nest egg balance.
How Changes Affect Savers of All Ages
Increased access to popular retirement plans
For savers of all ages, access to a 401(k) type plan can have significant positive impacts on retirement savings. Data from the Employee Benefit Research Institute found employees with access to 401(k)s had average retirement balances more than double those who did not have access to a plan.
Available access to a workplace retirement plan has been limited for many who work for small businesses. Small businesses (employees with fewer than 100 employees) make up 99.8 percent of all New York businesses according to 2018 Small Business Administration data, with many businesses reporting reluctance to create a workplace retirement plan due to cost and complexity concerns.
The SECURE Act significantly reduces barriers to retirement vehicles for smaller employers and their workforce. Beginning in 2020, small businesses with less than 100 employees may be eligible for increased tax credits up to $5,000 to establish a 401(k) or other plan (such as 403(b), SEP, or SIMPLE IRA). It’s best to consult with a tax professional to better understand what credits may apply.
Business tax credit for auto-enrolling workers to 401(k)s
Small businesses under the SECURE Act could see a new tax credit of up to $500 for auto-enrolling eligible workers into a 401(k) type plan. Auto-enrollment in retirement plans can be an effective method to increase employee plan participation. Workforces with auto-enrollment see plan participation rates that exceed 90 percent compared to plans in which workers must opt-in, according to PEW research.
Small businesses under the SECURE Act can now set up auto-enrollment arrangements for their workforce as high as 15% of pay, up from 10% prior to the legislation. The 15% cap aligns well with many financial professionals’ recommendations for retirement savings.
Reduced restrictions to Multiple Employer Retirement Plans
For employers, creating a tax-advantaged retirement savings option for their employees can be costly financially and administratively. Multiple Employer Retirement Plans (or MEPs) allow several employers to come together to pool their resources and costs and provide a single retirement plan.
The SECURE Act eliminates two key obstacles for MEPs:
- Eliminates “One Bad Apple” rule – this rule states one company violation of a MEP could affect all businesses within the plan
- Removal of the “nexus” rule – this eases connections businesses must have to establish a MEP
Reduced number of hours for part-time workers to qualify for retirement plan
Saving for retirement can be especially challenging for part-time employees. Under the SECURE Act, part-time employees must be eligible to join a company plan so long as the employee has worked at least 500 hours per year for three consecutive years. Having access to the plan could create additional opportunities for some employees, especially for plans that offer employer-matched contributions.
Other Miscellaneous Changes
529 plan changes
For 529 account holders, student loan payments up to $10,000 are now considered qualified education expenses. For those who have leftover balances in their 529 accounts after the beneficiary’s graduation, those funds can now be applied toward their student debt. There may be tax considerations for paying down student debt and it is advisable to speak with a tax professional.
Kiddie tax reverts back to pre-Tax Cuts and Jobs Act Rates
The SECURE Act once again modifies how unearned income for child dependents are taxed. Effective January 1, 2020, a child’s income is subject to the marginal tax rate of their parents (rather than the tax rate of a trust under the Tax Cuts and Job Act). Taxpayers may elect to apply the new rule to the taxable years of 2018 and 2019, as well, so it is best to consult with a tax professional to see if there is a planning opportunity.
Conclusion
The SECURE Act addresses many current challenges and brings mostly welcome changes for retirement savers. For those who have put their retirement savings on “auto-pilot,” it may be beneficial to re-examine your savings goals and strategies to ensure your plan is in alignment. Connecting with a trusted financial professional can also help answer questions about how the SECURE Act may affect you.
