07 Apr 2022 SECURE Act Clarifications, and a Secure Act 2.0?

Legislation nicknamed the “Secure Act 2.0” made its way through the House of Representatives last week and was sent to the Senate, where it also has bipartisan support. This bill originally was introduced back in October 2020, so it’s been around for a while on the back burner. The IRS also released proposed regulations back in February, giving further guidance and clarification around some of the original SECURE Act provisions. Oof. Lots of fun reading if you need any help falling asleep faster at night!

Although the Secure Act 2.0 and the IRS Proposed Regulations are not yet finalized, I’ve summarized some key elements so you can have a heads up for any potential changes headed your way. Changes at the eleventh hour do occur, as we saw with the SECURE Act passed late in December 2019 and Build Back Better conversations continuing until year-end 2021 (though that bill ultimately did not pass). We’d rather be aware of possible changes coming than be caught off guard when there’s little time to react at year-end! Of course, none of this may come to fruition, and we’ll keep you informed of the changes applicable to you when the time comes. I also must add disclaimers that we are not CPAs or attorneys, and this is not intended to be tax or legal advice.  For now, here’s a primer of what may come later this year.

Key Provisions Within IRS Proposed Regulations on the SECURE Act

I’ll start with the IRS Proposed Regulations on the current SECURE Act (in effect since 01/2020), as these regulations are clarifications on existing law. As a refresher, some of the greatest changes within the SECURE Act were increasing the RMD age to 72 and eliminating the life expectancy distribution options for many beneficiaries. The Act introduced the 10-year rule, which requires certain beneficiaries to remove all assets from the IRA by the end of the 10^th year after the original owner passed away.

Some of the language within the original legislation was unclear or open to interpretation, so the IRS has issued their current analysis of changes made to the IRS code by the SECURE Act. Currently, the IRS is accepting comments on their proposed regulations (full text available here), with a public hearing scheduled in June. In theory, the IRS could release final regulations in early summer, though it would not be surprising if they’re released later in the year.

Below are some questions to consider when thinking about naming your beneficiaries, or if you are a beneficiary of a retirement account:

• When was the original account owner born? This determines the Required Beginning Date (RBD) for the individual to take the Required Minimum Distribution (RMD). You want to determine whether the owner passed away before or after his/her RBD. This is one of the areas that the IRS needs to further clarify, because there are two interpretations of the rule that center around this question if the owner passed away after his/her RBD.
  • The first interpretation is that the beneficiary has flexibility as to when to withdraw funds throughout the 10 years – could split it up evenly, take all in the last year, etc.
  • The second interpretation, which is suggested within the Proposed Regulations, is that the beneficiary would continue taking out the RMDs at minimum each year until the 10^th year, when all assets must be distributed. If the IRS does confirm that is the case, and you have inherited an IRA on or after Jan. 1, 2020, your 10-year withdrawal strategy may need to adjust. Right now, there’s plenty of time left in the year to wait and see the final version before acting.
• What is your relationship to the owner? Depending on that answer, you may need to determine how close in age you are to the owner.
• Are you more than, or less than, 10 years apart in age? Which brings up another question that the IRS answered in their Proposed Regulations…. Do you determine that by looking at the calendar year, or your actual birthdates?
• What type of account did the beneficiary inherit? For example, this question matters because a inheriting a Roth IRA has different distribution rules than inheriting a Roth 401(k).

The answers to those questions (and more – I just focused on the highlights) determine the type of beneficiary and the method for distributing assets from the inherited account.

Current Types of Beneficiaries:

1. 1. Designated Beneficiary: The proposed regulations split this into two groups.
      • Eligible Designated Beneficiary: This includes surviving spouses, individuals with disabilities (definition clarified in regulations), persons who are chronically ill (definition clarified in regulations), persons not more than 10 years younger than deceased IRA owner (regulations suggest this will be actual age difference), and minor children of the decedent. (Minor children of the decedent can continue taking stretch distributions, but just until they are no longer a minor. When is someone no longer a minor? Usually, that’s determined by the states, but the IRS said in their proposed regulations that the age will be 21 to keep it simple.)
        • If the decedent passed away before his/her Required Beginning Date, then beneficiaries can choose whether to follow the “stretch” or 10-year rule. Depending on other aspects of someone’s financial picture, one or the other may be more favorable. A stretch distribution means beneficiaries can distribute funds using their own life expectancy table.
        • If the decedent passed away AFTER his/her Required Beginning Date, then the beneficiary can most likely continue stretching distributions, essentially as if the SECURE Act never existed.

• • Non-eligible Designated Beneficiary: This includes individuals who do not meet the above definitions, mostly non-spouse beneficiary and some see-through trusts.
    • If the decedent passed away before his/her Required Beginning Date, then the beneficiary has 10 years to empty the IRA.
    • If the decedent passed away after his/her Required Beginning Date, the beneficiary may need to take annual RMDs AND abide by the 10-year rule.

2. Non-Designated Beneficiary: This includes charities, estates, non-see-through trusts. The IRS Proposed Regulations attempt to clarify these requirements, but it will likely be either the 5-Year Rule, or 5-Year Rule and Stretch RMDs until the 5th Year.  

All that to say, there are MANY factors to consider surrounding inherited retirement accounts and beneficiary designations, and the original interpretation of the SECURE Act may be changing under the IRS Proposed Regulations. I didn’t even discuss the complexities sometimes involved when naming a trust as beneficiary, which sometimes can have unintended consequences. Be sure to involve your estate attorney as needed. We’re here to help you sort through this information and determine any potential impact on your situation. Sometimes we sound like broken records when we meet with our clients for reviews because we like to revisit beneficiaries annually, but these are the types of questions we are asking ourselves to do our best to eliminate unwelcome surprises. If you want even more information on this subject, Jeff Levine wrote a thorough summary of these Proposed Regulations that I consulted when writing this post.

TL;DR

The rules around RMDs changed in 2019 under the SECURE Act. The IRS may be tweaking the general interpretation of how the rules are applied, which could impact retirement accounts inherited after 1/1/20. Stay tuned for more information to come later in the year.

Key Provisions Within the SECURE 2.0 Bill

So, since the SECURE Act clearly wasn’t enough to implement, the Securing a Strong Retirement Act of 2022 (Secure Act 2.0) is working its way through Congress. I’ve listed out just some of the provisions in this proposed new bill, along with some possible planning implications.

1. RMD age pushed back from 72 to 75, phased in over a decade:
   • This may benefit individuals who do not rely on assets from a retirement account for living expenses. This extends the tax-deferred growth potential. But once RMDs do begin, the amount may be higher since you have fewer years to withdraw the assets. Plus, keep in mind that many beneficiaries now will have to remove all assets from an inherited IRA within 10 years, and if RMD age extends, in theory, the inherited assets may be a greater amount.  Often, we see adult beneficiaries receiving inherited assets when they are in high-earning income years. There may be multi-generational planning to consider with this change. Strategic Roth conversions during pre-RMD years would still be a viable planning opportunity.
2. Higher catch-up contribution limits for IRAs and 401(k)s:
   • The bill allows for higher catch-up contribution limits for older workers, though it also requires catch-up contributions to be made with after-tax dollars in Roth accounts. This means the catch-up contributions are not eligible tax deductions for the worker and the government receives tax dollars sooner. Employers may also be able to place matching contributions into Roth accounts.
3. Expanded tax credit for small businesses to offset pension plan setup costs:
   • Makes it easier for small businesses to offer a retirement plan.
4. Reduced penalty for not taking RMD on time:
   • Currently, those who fail to take a required minimum distribution have to pay a 50% excise tax on the amount that should have been taken out – which is a pretty steep penalty. The bill would reduce the penalty to 25% starting next year, or as little as 10% if the mistake is corrected quickly enough.
5. Retirement account sign-up bonuses & auto enrollment for new plans:
   • Plan sponsors could offer a cash bonus or reward when participants sign up for the company’s retirement plan.
   • For plan years after 12/31/22, the legislation would mandate automatic enrollment when participants reach eligibility, though participants could still opt-out.
6. Creation of a lost and found database for retirement accounts:
   • Many individuals leave 401(k) accounts or other retirement benefits with former employers and eventually lose track of the money, and this bill would create a database to allow individuals to search for lost retirement accounts.

Whew, that’s a lot of retirement planning changes potentially headed our way. As always, we’ll keep you updated as any changes are finalized.

The content above is for informational and educational purposes only. The links and graphs are being provided as a convenience; they do not constitute an endorsement or an approval by Beacon Wealthcare, nor does Beacon guarantee the accuracy of the information.