The new SECURE Act changes estate planning regarding inherited retirement accounts starting in 2020.
SECURE is in an acronym that stands for “Setting Every Community Up for Retirement Enhancement.” The new SECURE act was signed into law on December 20, 2019, and is now in effect starting January 1, 2020.
The primary change in the law as it applies to inherited IRAs or other qualified retirement accounts is contained in section 401 of the SECURE Act and it is appropriately titled as: “TITLE IV Revenue Provisions” because it ultimately was designed to accelerate and increase the collection of tax revenues. It modified section 401(a)(9) of the Internal Revenue Code of 1986 by limiting most beneficiaries of inherited IRAs (or other qualified retirement accounts) to only be able to stretch out the withdrawals from the Inherited IRA over a ten year period following the year of the original IRA owner’s death.
Previously, designated beneficiaries of inherited IRAs could elongate the withdrawals of an inherited IRA over the beneficiary’s life expectancy. For a young beneficiary, those withdrawals would occur over the course of has much as 82 years for a newborn child. Even for a 50-year-old adult child, the withdrawals could have been stretched over a 34-year period to their benefit.
Sophisticated estate plans often allowed a long stretch out of withdrawals from an inherited IRA even when they were paid to trust shares that could provide asset protection for the intended beneficiaries. A common practice in many plans was to create a conduit trust share that required withdrawals from the IRA to be distributed to the primary beneficiary each year. Since the required distributions were often small, families felt comfortable with young beneficiaries getting small distributions even if they might have certain drawbacks due to the beneficiary having creditor problems or poor money management issues. With the new law requiring distributions within ten years and in some cases in as little as five years, many advisers would now recommend that these conduit shares be changed into accumulation shares that would not require the distribution of the withdrawals from the retirement account to the beneficiary if these larger distributions would be detrimental.
Trust makers are well-advised to seek legal counsel to discuss the potential conversion of conduit shares to accumulation shares.
Clients creating new trusts will almost certainly choose accumulation shares a far larger percentage of the time. Unfortunately, there is no cookie-cutter solution to the problems this new law has created. Families will need individual counseling to address their unique circumstances for themselves and their families.
Because of the change in the law, Roth retirement accounts will now be preferable in a much greater percentage of cases. For example, if a trust share was created that after the death of both the trust maker and the original IRA owner the retirement account was going to have to be liquidated over just ten years (or in some cases just five years). Having the retirement account be a tax-free Roth retirement account can help avoid the trust income being pushed into the maximum income tax brackets. This can happen at just over $12,000 per year of income for many of these trusts if the income is not distributed.
Living retirement account owners can convert their traditional qualified retirement accounts into Roth accounts while they are alive. Although they will have to pay income tax on the funds converted, beneficiaries/owners reach top tax brackets much slower than trusts normally do. By converting while the original retirement account owner is alive, less overall taxes will need to be paid. This is doubly true for the wealthy clients who are over the federal estate tax limits.
There are other options to help reduce the loss of inherited funds with well thought out charitable planning. For clients with charitable interests, we are looking at options that can result in a higher combined payout to family and charity than would occur if all the distributions were made just to family. There will still need to be a true charitable intent because the family member may still net less when a charity is included. However, the biggest loser would be the Internal Revenue Service who would get dramatically less in tax. There are also strategies using Life Insurance that could replace the amounts going to charity.
Those that would like to discuss the impact of the new SECURE Act and how it affects their families and their estate planning may contact Strauss Attorneys, PLLC to make an appointment with one of the attorneys in the firm. Call our Asheville office at 828-407-1948, or our Hendersonville office at 828-483-5972 to schedule an appointment to discuss how to plan their estates in the face of this new SECURE Act legislation. Our attorneys are also available to give group presentations regarding this new legislation to groups interested in furthering their financial and estate planning education together.