By Kelly Phillips
The Setting Every Community Up for Retirement Enhancement Act of 2019 (“SECURE” Act) was enacted on Dec. 20, 2019. This act changes regulations with regard to retirement fund access and planning that CPAs, employee benefit coordinators and estate planners have long operated under.
Individual retirement accounts (IRAs) were created by the Revenue Act of 1978 and designed to allow a tax-free accumulation of funds, and for those funds to be available to supplement Social Security payments and replace rapidly disappearing employer-funded pension plans. Funding an IRA would give a taxpayer autonomy over retirement funds rather than having his or her money be at the mercy of a pension administrator or the federal government.
As the first IRAs approached their 18th birthday, the Tax Reform Act of 1996 implemented required minimum distribution (RMDs). These rules were designed to keep Americans from squirreling away billions of dollars into perpetuity and require IRA owners to start taking distributions in the year they turned 70½. The distribution calculation developed takes the fair market value of the IRA and divides it by a distribution period table based on the taxpayer’s age or a joint factor for the taxpayer and spouse. The intended result was to have the life expectancy factor distribute the IRA in such a manner so that at the taxpayer’s death, minimal funds would be left in the IRA, or in the case of using joint life expectancy factors, enough funds would remain to support the widowed spouse.
In order to keep IRA owners from taking a required minimum distribution and then turning around and contributing the funds back into an IRA for a deduction (if they were eligible) once the taxpayer reached 70½ years of age, they were barred from making further contributions.
The SECURE Act provisions have removed the prohibition on making an ordinary contribution to an IRA after age 70½. In addition, required minimum distributions do not begin until the year the taxpayer turns 72. If a taxpayer has already begun his or her schedule of RMDs and is between 70½ and 72, he or she may not stop. But those who would have started taking RMDs in 2020 due to reaching 70½ are off the hook until the year they turn 72.
Taxpayers who are required to take a distribution may choose to have up to $100,000 of their RMD diverted directly to a qualified charitable entity. This serves three purposes. One, if there was a plan to give to charity, this helps facilitate that donation without compromising liquidity. Two, the taxpayer may take the standard deduction and would lose the benefit of a charitable donation, which already includes an increased amount for taxpayers born after Jan 2, 1955. (Taxpayers born on Jan. 1 may usually treat themselves as having been born on Dec. 31 of the previous year for most income tax provisions.) Three, the reduction in adjusted gross income impacts multiple calculations, resulting in a lower threshold for deducting medical expenses, determining if an increased Medicare premium is necessary, and calculating the taxable portion of Social Security.
If you are taking advantage of the repeal of the age restriction on contributions and the qualified charitable distribution (QCD), there are some additional provisions in order to coordinate the two events and prevent double dipping.
Under the old rules, when an IRA owner died, there were several options available to the designated beneficiary for the distribution of the remaining funds in the IRA prior to the passing of the SECURE Act. Under the new rules, the entire interest must be distributed to a designated beneficiary within 10 years after the death of the account owner regardless of whether distributions were required to be made before the original owner’s death. There is an exception to allow an eligible beneficiary to take distributions over the life expectancy of the beneficiary beginning in the year following the original owner’s death. Those eligible for this treatment are a surviving spouse, minor children or disabled or chronically ill beneficiaries. Surviving spouses can elect to delay distributions until the account owner would have reached 70½ or 72, whichever age applies.
Along with changes to IRAs, the act allows Section 529 plans to fund expenses for a registered apprentice program’s fees, tuition, supplies and books, and 529 plan distributions can be used to pay up to $10,000 of student loan debt, as long as the tuition paid by the debt was not used to get a tax credit. Prior to the passing of this act, if an employee did not work 1,000 hours, the employee was generally shut out from employer-sponsored retirement plans. Now, if an employee works 500 hours for three years, the employee will qualify to participate, opening up retirement savings to more employees. The act allows graduate or post-graduate stipends and fellowships, not previously considered compensation, to be treated as such for purposes of determining if a taxpayer has eligible compensation to make an IRA contribution.
Births or adoptions after Dec. 31, 2019, now are an exception to the 10 percent penalty on early withdrawals from an eligible retirement plan. The maximum amount per individual (not per child) that may be treated as penalty free is $5,000, and the distribution may be taken up to a year after the qualifying event. With the pluses though, there has to be a minus and in this case, the failure-to-file penalty has been increased for tax returns over 60 days late to $435. It also increases the already steep penalty for failing to file retirement plan returns timely. What was previously $25 a day, up to $15,000 for failing to file an annual report, is now $250 a day, up to $50,000.
This is not a comprehensive list of the changes enacted by the SECURE Act. There are multiple provisions that are more specifically targeted in their affect to business and personal taxpayers. Please consult your tax adviser or a complete overview of the changes and how they affect your personal tax situation and planning.
Kelly Phillips, CPA, is a shareholder at Bell & Company of North Little Rock and Conway.