Presentation on the Secure Act
- 1. Secure Act: Major Changes To Retirement Rules
- 2. The importance of the Beneficiary Designation. Any retirement plan is a contract between the sponsor and the account owner. Distribution to beneficiaries on the account owner’s death is governed by the beneficiary designation. If there is no beneficiary, it goes through probate. This Photo by Unknown Author is licensed under CC BY-NC
- 3. Who should be beneficiary? If the account owner names individuals, the individuals pay income tax as they withdraw it. If the account owner names a charity, the charity and the family pay no income tax on the portion going to charity. You should rarely name a trust. This Photo by Unknown Author is licensed under CC BY
- 4. Summary of the old rules-stretch IRA Before January 1, 2020, an IRA account holder would name a spouse as primary beneficiary and children as contingent beneficiaries. After the account owner’s death, the spouse would take distributions over his/her life expectancy. On spouse’s death, children could take over their respective life expectancies.
- 5. Economics of a stretch IRA The children could commonly take distributions over 30 years. This would allow the children to accumulate more on a tax-deferred basis. Congress never liked the idea that beneficiaries could use inherited IRAs to provide for retirement.
- 6. Inputs for case study Age of (oldest trust) beneficiary 50 IRA Balance $1,000,000 Pre-tax growth rate 5% After-tax growth rate 3% Average income tax rate: life expectancy 25% Average income tax rate: ten-year rule 30% Distributions at beginning or end of period? End Lump Sum distribution or amortize Amortize
- 7. Summary of economics Years after death Ten Year Rule Life Expectancy 10 $1,039,237 $1,195,301 20 $1,396,648 $1,818,366 30 $1,876,978 $2,633,563 40 $2,522,502 $3,598,207
- 8. Summary of the new rules Congress passed a major revision of retirement plan rules, including IRA distributions, effective on January 1, 2020. The Secure Act changes the economics of leaving retirement plans to charities. Account owner and account owner’s spouse – the account owner and the account owner’s spouse continue to use their life expectancies.
- 9. Important Provisions of the Secure Act Begin minimum required distributions (MRD) at MRD at age 72. If you were 70 ½ before January 1, you continue to use the old rules and you must take MRD. If you weren’t 70 ½ before January 1, 2020, you can start taking MRD at 72. Beneficiaries other than the account owner and spouse must take the entire inherited IRA within 10 years of the death of the account owner or the spouse.
- 10. Limited exceptions to the 10-year rule The surviving spouse can still use life expectancy. The following individuals are not limited to 10 years: Disabled individuals – life expectancy as long as the person is disabled. If the disability ends, you change to the 10-year rule. Chronically ill individuals – 10-year rule is suspended. Those who are less than 10 years younger than the account owner – life expectancy Minor beneficiaries can get distributions until the age of majority (presumably age 21) plus the 10-year period.
- 11. Definition of a designated beneficiary An Individual Trust meeting certain conditions Irrevocable under state law or will become so on the account owner’s death Valid under state law The trust’s underlying beneficiaries must be identifiable Copy of the trust document must be provided to the IRA custodian by October 31 of the year following the year of the account owner’s death.
- 12. Effect of the 10-year rule This means that the children face a significantly higher income tax bill on the IRA distributions unless the account owners review and alter their plans. Depending on the size of the IRA, the children could face several hundred thousand dollars in additional income taxes.
- 13. Planning Opportunities What can you do reduce the damage?
- 14. Charitable IRA rollover The Qualified Charitable Distribution (QCD), otherwise known as the Charitable IRA rollover is still available. Direct the custodian to distribute up to $100,000 to a public charity. Cannot distribute to private foundation or donor advised fund Distribution to charity satisfies your required minimum distribution. Donor reports no income and gets no deduction
- 15. IMPORTANT NEW RULE There is one important change: if you do a Charitable IRA rollover with an IRA for which you took deductions, it is not tax free. You must do it with an IRA rolled over from a 401k plan. Tax deductible contributions are recaptured. Investment growth is not recaptured.
- 16. Example of taxable QCD Individual who turned 70.5 before 2020 deducts $5,000 for contributions in each of 2020 and 2021 but makes no contribution for 2022. The individual makes no qualified charitable distribution for 2020 but makes QCDs of $6,000 for 2021 and $6500 for 2022.
- 17. Calculation of amount excludable Excludable amount is $6,000 for 2021 minus $10,000 in contributions for 2020 and 2021, or ($4,000). Excludable amount for 2022 is $6500 minus the amount of deductible contributions not previously applied to a QCD. Excludable amount is $6500 minus $4,000 = $2500. Deductible contributions are applied only once.
- 18. Naming a charity at death The donor can still name charity as a beneficiary at their death. Family will pay no income tax on the portion going to charity You would need to stretch an IRA out over 40 years to get the same tax benefit This Photo by Unknown Author is licensed under CC BY-NC-ND
- 19. Testamentary Charitable Remainder Unitrust The testamentary Charitable Remainder Unitrust provides another possible solution. A charitable remainder unitrust is an irrevocable trust which provides for a payment to one or more income beneficiaries of an amount between 5% and 50% of the value of the assets as determined on a specific date each year. On the death of the income beneficiary(ies) the amount left goes to charity.
- 20. Economics of a CRUT It comes the closest to simulating a life expectancy distribution. If the value of the assets increases, distribution increases. If the value of the assets decreases, the distribution decreases You would only recommend this for a family with strong charitable intent
- 21. Payout Period for a CRUT The payout can be for the life or lives of the income beneficiaries or for a period of years not longer than 20. At the end of the distribution period for the income beneficiaries the balance goes to charity. Each year at least a portion of each distribution will be taxable. The testamentary charitable remainder trust is more complicated but does the best job of simulating the stretch.
- 22. Life Insurance Consider using life insurance to replace amount lost to tax Life insurance not subject to income tax in most cases
- 23. Disclaimer Consider using a disclaimer by spouse in appropriates cases. The IRA disclaimed would go to children or other beneficiaries. This Photo by Unknown Author is licensed under CC BY
- 24. Tax Benefits of Disclaimer Would reduce future Illinois or Federal estate tax Children would set up an inherited IRA for disclaimed amount Would reduce the income tax for the person disclaiming.
- 25. Do A Roth IRA Conversion Consider one or more smaller Roth IRA conversionsConsider Use smaller IRA conversions to stretch out prepayment of income taxUse The account owner will pay income tax now.Pay Children will withdraw over the 10-year period but pay no income tax. Withdraw over
- 26. Summary SECURE Act is the first major revision to distribution rules since 2002 It radically changes the economics of IRA distribution planning There are solutions to reduce the damage However, none of them are great solutions.
- 27. Contact Information James C Provenza & Associates, PC 1701 E Lake Avenue #260 Glenview, IL 60025 Phone 847-729-3939 E-mail: jprovenza@provenzalaw.com