The Setting Every Community Up for Retirement Enhancement Act of 2019 (the SECURE act) was signed by President Trump and became law on January 1, 2020. The SECURE act has significantly altered the estate planning landscape for qualified retirement accounts, including but not limited to Individual Retirement Accounts (IRA’s) , 401(k)’s, 403(b)’s, 457(b)’s and Roth IRA’s. Individuals should review and update their current estate planning documents and current beneficiary designations for their retirement accounts to make sure these documents will carry out their estate planning goals. Prior to the passage of the SECURE Act individual beneficiaries of retirement accounts could establish inherited retirement accounts and withdraw the funds from those accounts over the life expectancy of the beneficiary. This allowed the retirement account funds to grow without being subject to income taxation until they were distributed to the beneficiary ( and in the case of inherited Roth IRA’s and inherited Roth 401(k)’s, both the growth and the distributions were income tax free). Younger retirement account beneficiaries with longer life expectancies could benefit from these Required Minimum Distribution (RMD) rules as they were only required to withdraw small percentages from their inherited retirement accounts each year and the remaining funds could continue to grow and defer income taxes (Roth accounts could completely escape income taxes). Inherited retirement accounts that took advantage of this life expectancy payout method were known as “Stretch IRAs.”
The SECURE Act largely eliminates the Stretch IRA for retirement account owners who die after 2019. The SECURE Act requires that an individual beneficiary (or a qualified trust for an individual beneficiary) to withdraw the entire inherited retirement account balance by December 31 of the 10th year after the retirement account owner’s death. This new rule will significantly accelerate the payment of income taxes for most retirement accounts and will likely result in more income taxes as retirement account beneficiaries are pushed into higher tax brackets.
Certain categories of beneficiaries can use a Stretch IRA. These beneficiaries include surviving spouses, disabled or chronically ill individuals (as defined by federal law) and individuals who are less than 10 years younger than the retirement account owner and qualified trusts for the benefit of these individuals.
Surviving spouses may continue to rollover inherited retirement accounts into their own retirement accounts under the SECURE Act. Minor children of a retirement account owner, or qualified trusts for the benefit of such minor children children may use the child’s life expectancy for the RMD until the child becomes an adult after which the child must then shift to the 10 year rule. The problem presented by the SECURE Act is that the entire balance of the retirement account becomes available much more quickly to a beneficiary than planned. This could be problematic for those beneficiaries who do not manage money well as there will be less protection of the inherited funds from the creditors of a beneficiary who does not manage money well.
In light of the SECURE Act retirement account owners may want to consider modifying their retirement account beneficiary designations or the terms of the qualified trust that is the beneficiary of the retirement accounts in an attempt to prevent the distribution of significant assets to a beneficiary who is not properly prepared to receive and manage these assets.