On May 23rd the House passed the SECURE Act with a strong 417-3 vote. This bill has been touted as an enhancement to current IRA rules, making them more accessible and creating more opportunities for employers to offer additional options. However, there are also a few finer points in the bill that impart negative tax burdens on the beneficiaries of IRA’s.
These “qualified” accounts have given special tax deductions to millions of Americans, with the caveat that there would be mandatory distributions to the owners later in life, most likely in retirement. The theory was that most individuals would be in a lower tax bracket once they retired, but that isn’t always the case. A large percentage of my clients remain in their same tax bracket in retirement due to their high investment income, social security, and the addition of these required mandatory distribution payments.
Currently, IRA’s can be left to heirs as an inherited IRA. This means that the new owners of the account can continue to enjoy the benefits of tax-deferral and are only required to take a distribution each year based on their life expectancy, often amounting to a small payment and therefore a small tax burden. This is most commonly referred to as a “stretch IRA” and can make a huge difference in the heir’s financial future. The SECURE Act takes aim at this provision and states that an inherited IRA can now only be “stretched” for a total of ten years for all non-spouses, rather than the heir’s potential life expectancy. This is a devastating blow to the individuals who aim to provide financial freedom to their beneficiaries.
By forcing the recipient of an IRA to take the full distribution over ten years, many will be pushed into a higher tax bracket, essentially negating all of the benefits that the original owner was promised. This is another form of a “death tax,” and will greatly reduce the spendable dollars for many beneficiaries.
Ways to adapt to the changes this new bill mandates exist – the use of a Charitable Remainder Trust (CRUT) being one. With the expert direction of estate-planning attorneys, a CRUT can be set up as a way to bypass the ten-year rule for the non-charitable beneficiary of the CRUT. This would allow beneficiaries to stretch out payments made to them, as well as continue to allow growth of assets while paying less in taxes.
Another major change outlined by the SECURE Act is the age at which Required Minimum Distributions begin. Under the current rules, IRA and other qualified account owners must begin taking distributions the year they turn 70 and a half. The SECURE Act states that RMD’s are to be delayed until the owner turns 72 years old, as life expectancy has risen since the rules were first written in 1986. This change will likely allow account values to appreciate a bit more before the compulsory distributions, resulting in higher withdrawal amounts.
As of this writing, these rules have not yet been made into law and the Senate has yet to propose their final wording of the bill. To speak with a specialist, click here.