Legislative Changes Affecting Retirement and Estate Plans
Congress recently enacted the SECURE Act (“Setting Every Community Up for Retirement Enhancement Act” of 2019), which significantly changes the manner in which qualified retirement plans (i.e., IRAs, 401(k) plans, and 403(b) plans) are treated and taxed. The SECURE Act may also significantly affect your existing estate plan.
Prior to the SECURE Act, a beneficiary who inherited a qualified retirement plan, such as an IRA or 401(k), could generally “stretch” the required distribution period of the plan’s assets over that beneficiary’s remaining life expectancy. This provision potentially resulted in significant income tax savings, especially for younger beneficiaries, as a longer life expectancy required smaller yearly distributions at a lower income tax rate (this does not apply to inherited Roth IRAs and Roth 401(k)s, as the required distributions from these plans are tax-free).
Under the SECURE Act, any beneficiary who inherits a qualified retirement plan from an individual who died on or after January 1, 2020 must now receive the entire distribution within 10 years of the date of death. Further, there is no longer a required minimum distribution each year – the entire balance must simply be withdrawn by the end of the 10th year. Accordingly, for most beneficiaries, the SECURE Act will result in a higher income tax rate on the distributed assets. Further, the shorter distribution period may prove disadvantageous for a financially irresponsible beneficiary.
For example, prior to January 1, 2020, a 20-year old who inherited an IRA worth $1,000,000 could “stretch” the required distribution period over a remaining life expectancy calculated at 62 years; this would result in an annual minimum distribution of approximately $16,000, which falls into the 12% federal tax bracket.
Following enactment of the SECURE Act, that same beneficiary who inherits a $1,000,000 IRA from a plan owner who died on or after January 1, 2020 must receive the entire distribution within 10 years. If the beneficiary chooses to spread the distributions out equally over 10 years, the resulting annual distribution of approximately $100,000 falls into the 24% federal tax bracket.
Of note, the “stretch” distribution provisions still apply to what are called “eligible designated beneficiaries.” These include: (a) the spouse of the retirement plan owner; (b) a minor child of the retirement plan owner (although the 10-year distribution rule begins once the minor reaches the age of majority – 18 in most states); (c) a disabled or chronically ill individual; and (d) an individual who is not more than 10 years younger than the plan owner. The ‘stretch” distribution provisions appear to apply to an “eligible designated beneficiary” of a properly drafted “see-through” retirement trust as well, although the IRS may later clarify this issue.
So what does this mean for you? If you have designated an individual or charity as a beneficiary of your IRA, 401(k), or other qualified retirement plan, your existing estate plan may still be sufficient. However, your estate plan may require updating if you have designated your trust as the beneficiary (or contingent beneficiary) of your qualified retirement plan, if your trust (like most) includes language governing the receipt and administration of qualified retirement plan assets, if you created a stand-alone retirement trust with a “conduit” provision, and/or if your qualified retirement plan has appreciated significantly in value.
In light of this recent legislative change, please contact our office at (818) 206-8711 or via our website at www.hopkinslawgroup.com so we may discuss your particular estate planning situation and options available to you.