Breaking down the new federal SECURE Act
On the tails of the 2020 budget, Congress passed the SECURE Act which the President into signed law on Dec. 20, 2019.
The SECURE Act changed many facets of retirement accounts and related planning, some retroactively. In that light, we will discuss what changed, and who should care.
Required minimum distributions
Under the old rules, you had to start taking distributions from your IRA when you reached 70½ years old. It was always a curiosity why the government picked a half-year birthday to start the distributions.
Under the new law, you can start distributions on your 72nd birthday. The Act also eliminated the maximum age to make IRA contributions (it used to be 70½), which makes sense since you generally need earned income to make an IRA contribution.
If you are young enough to be working for a living, you should be afforded the opportunity to contribute. If you turned 70½ in 2019, you still have to take your required minimum distribution or be subject to a 50% penalty. You can then skip distributions until you turn 72.
Less stretching under new law
A significant bummer in the legislation is the treatment of non-spouse beneficiaries that inherits an IRA. Under the prior law, the ability to take the distributions over a limitless period of time became known as the “Stretch-IRA.”
Under the new law, if the beneficiary is more than 10 years younger than the IRA owner, they must liquidate the inherited IRA in 10 years unless they are a spouse, disabled, or chronically ill, or a minor child.
For example, under prior law, an IRA owner could give an IRA to their great grandchildren, who would have to distribute the IRA over their lives. With people living longer, it was possible to defer taxation on these amounts for centuries.
Planning point: Anyone who is listing their child, grandchild or trust as a beneficiary, should re-visit their estate plan. Note that many IRA institutions will default to the estate if no beneficiary is listed. This could be devastating for a surviving spouse who could have avoided the 10-year rule.
Sick tax planning
Exceptions to the 10-year rule include chronically ill heirs and disabled heirs. Chronically ill is defined as someone unable to engage in any substantial gainful activity because of any medically determinable physical or mental impairment which can be expected to result in death.
Chronically ill is also defined as an illness that is indefinite duration. Under the SECURE Act, disability is defined as being unable to perform (without substantial assistance from another individual) at least two activities of daily living for at least 90 days due to a loss of functional capacity.
Planning point: A chronically ill beneficiary who inherits an IRA should obtain a note from a physician stating that on the date of death they were chronically ill unable to engage in any substantial gainful activity. A higher tax will be levied on the recipients who are disabled or ill people who didn’t know to prove their disability or illness.
The last exception is for minor children. If the child is considered a minor, the 10-year rule doesn’t apply. Once the child is no longer considered a minor, then the child must withdraw the IRA proceeds within the 10-year period.
It does raise an interesting question, “Can a person be consider a minor if they are pursuing a specific course of education and is under age 26?” Things that make you go “Hmmmmm.”
Easier planning for small business
If a business does not have a 401K plan, the SECURE Act now provides a small company with a $500 per year tax credit to help off-set the costs of setting up the plan. Make sure you tell your CPA that you are eligible for this credit.
The SECURE Act allows companies to retroactively create a retirement plan. Yes you read it correctly. That means that your business can still set-up a plan in 2020 and deduct it against 2019 taxes!
Many partnerships and S Corporations have until March 15 to get the plan set-up. Sole proprietors and C Corporation have until April 15. Note that these accounts don’t have to be funded until Sept. 15 and Oct. 15 of this year depending on the type of business entity.
Planning point: If you have a business that needs a retirement plan, get that going now and save 2019 taxes.
This article is general in nature, and not designed to answer specific questions. Consult with your CPA to determine how these items impact your specific situation.
Michael Bosma, CPA, is Principal-in-Charge of the Reno office of CliftonLarsonAllen LLP. His column, “Covering Your Assets,” focuses on effective planning strategies for every business owner. Reach him for comment at firstname.lastname@example.org.