How the SECURE Act Affects Your Retirement & Estate Planning

In late December 2019, President Donald Trump signed into law the Setting Every Community Up for Retirement Enhancement Act (SECURE Act).

Many of the changes volleyed around Capitol Hill for years, and proponents tout them as the most comprehensive retirement changes since the 2006 Pension Protection Act. Given its bipartisan support, the changes aren’t exactly revolutionary. Most changes are incremental, tweaking the existing retirement account rules.

And being a bipartisan bill, it also includes a clever way to raise tax revenue without raising tax rates. Everyone in Washington gets to clap themselves on the back after such maneuvers.

As you plan your retirement, make sure you understand the new rules and adjust your estate planning based on the new rules on inherited IRAs.

Inherited IRAs: Drain in 10

Before the SECURE Act, people who inherited an individual retirement account (IRA) could spread out the withdrawals over their entire lifetime. They still had to take required minimum distributions (RMDs) based on their age, life expectancy, and the amount available in the account. But heirs could spread their withdrawals out over their entire remaining life expectancy.

The days of these “stretch IRAs” are over. The most significant change of the SECURE Act was to require account owners to empty all inherited retirement accounts within 10 years – a clause quickly labeled the “drain-in-10” rule. It removes annual RMDs, instead merely requiring that nothing remains in the account 10 years after passing to an heir.

Note that the drain-in-10 rule applies to non-Roth retirement accounts like traditional IRAs, 401(k)s, and SIMPLE IRAs. Roth accounts come with their own separate inheritance rules, which have remained unchanged.

The Purpose of the Drain-in-10 Rule

Why did Congress stop allowing heirs to draw on their inheritance at a slower, more responsible pace?

In a word, revenue. The IRS taxes withdrawals from traditional IRA accounts as regular income. By forcing heirs to withdraw all the money relatively quickly, the IRA distributions drive heirs’ taxable income into higher tax brackets.

Imagine you’re a single person earning a modest $40,000 per year. According to the 2021 federal income tax brackets, you pay 10% for roughly the first $10,000 of that and 12% for the next $30,000. Your last remaining parent dies and leaves you $400,000 from their IRA.

No matter what, you have to pay taxes on withdrawals. But previously, you could spread withdrawals over the rest of your life and enjoy much of that inheritance as retirement income. For example, you could take $15,000 per year from it to supplement your income, paying the higher 22% tax rate on it since it drove your income into the next tax bracket.

Because of the SECURE Act, you now must instead take $40,000 per year on it, plus returns. You pay the higher 22% tax rate on $40,000 rather than $15,000. The money also stops compounding, as it had been as untouched pre-tax funds in an IRA.

It amounts to serious tax revenue too. Estimates from the Congressional Budget Office put the additional tax revenue from this new rule at $15.7 billion over the next 10 years.

And if you fail to take the required minimum distributions, you must pay the IRS a 50% penalty on the amount you fail to take. Thus, if you were required to withdraw $10,000 but don’t, you pay a $5,000 penalty to the IRS.

Irs Tax Revenue Form Magnifying Glass

Exceptions to the Drain-in-10 Rule

The SECURE Act took effect on Jan. 1, 2020, and is not retroactively applied. Any taxpayers who inherited an IRA or 401(k) previously are exempt.

Other exceptions include surviving spouses, heirs no more than 10 years younger than their benefactor – such as siblings – and people with disabilities. Spouses can roll the inherited IRA into their own traditional IRA or spousal IRA.

Nonspouses cannot roll over funds from an inherited IRA into their own. Their only option is to withdraw the money at regular income tax rates.

A fourth exception exists for minors. The drain-in-10 rule only kicks in once the minor children turn 18 and reach the age of majority. As such, children who inherit an IRA have until age 28 to empty the account without facing IRS penalties.

Problems Trusts Create for Heirs

Some benefactors put their money into trusts upon their death, with detailed instructions for how to release the funds in their estate plan. In some cases, the trust pays out funds a little at a time or releases them only after a predetermined number of years.

These restrictive trusts can create a problem for designated beneficiaries (heirs). For example, if a trust only allows the beneficiary to take the RMD, that could mean releasing the entire balance all at once after 10 years – and require the beneficiary to pay massive income taxes on it.

Forcing heirs to take the entire balance of trust funds in no more than 10 years can also defeat the whole purpose: to spread the inheritance out over many years to prevent the heir from blowing the money on sports cars and gadgets and designer clothing.

Ideas to Minimize Taxes

If you’re planning your estate, talk to a financial advisor before you do anything else. The tax rules on inheritances are complicated and made even more so by estate planning rules. If you don’t currently have a financial advisor, you can find one in your area through SmartAsset.

Benefactors who have set up trusts for their heirs to receive an IRA must consider their structure carefully and make sure they don’t force their heirs to take the entire amount all at once.

One option is to use part of the IRA funds to create a life insurance policy through Bestow with your heir as the named beneficiary. You do pay taxes on premium costs, but your heir doesn’t pay taxes on the payout.

You can also look into trustee-to-trustee transfers for IRA inheritances. But these get complicated quickly, so talk to an estate planning attorney or tax specialist through H&R Block.

If you’re on the receiving end of an IRA inheritance, common sense suggests spreading the withdrawals evenly over the 10 years to minimize your tax burden. You can put the money into your own tax-sheltered retirement accounts, whether an employer-sponsored account, like a 401(k) or 403(b), or an IRA.

Alternatively, if you’re near retirement age, you can wait until you retire before taking withdrawals. You avoid pulling money from the inherited IRA while also collecting earned income, so the combination doesn’t drive up your income tax bracket. Even better, you can delay pulling any money from your own retirement accounts, leaving them to compound and minimizing your sequence of returns risk.

Pro tip: If you haven’t set up your will, consider doing so through a company like Trust & Will. They make the whole process simple and are available to answer any questions you might have along the way.


Additional Retirement Account Changes

While the new drain-in-10 change to inherited IRAs stirred up the most controversy and angst among investors, it’s far from the only change created by the SECURE Act.

Make sure you understand all the rule changes, whether you’re planning out your own retirement investments or you’re a small-business owner considering a retirement plan for your employees.

1. No More Age Restriction on Traditional IRA Contributions

Before the SECURE Act, Americans over age 70 1/2 couldn’t contribute to their traditional IRA accounts.

But Americans are living longer, which usually means they need to work longer and save more to afford retirement. The SECURE Act allows Americans of any age to continue adding money to their traditional IRA.

And why not? From the perspective of the IRS, they can allow older Americans to keep contributing, safe in the knowledge the funds can only remain untaxed for a maximum of 10 years after the contributor’s death.

Particularly savvy planners can take advantage of the ceiling removal with backdoor Roth contributions, allowing them more flexibility to shuffle money based on that year’s income. But talk to a financial planner about such complex maneuvering before trying it at home.

2. Higher Age for Required Minimum Distributions

Under the previous rules, IRA owners had to start taking RMDs at age 70 1/2. The SECURE Act raised the minimum starting age for RMDs to age 72. Again, it only makes sense, with Americans living and working longer.

The exception to the RMD age remains in place: Americans who continue working and don’t own more than 5% of the company where they work don’t have to take RMDs. After retiring, they must start taking RMDs if they’re over age 72.

Retirement Planning Old Couple Walking Up Stacks Of Coins

3. Annuities in 401(k) Plans

Almost no employers included annuities as an option in their 401(k) plans before the SECURE Act. The reason was simple: the old laws held employers liable as having fiduciary responsibility for annuities included in their 401(k) plans.

But the insurance industry lobbied hard to change that rule, and their lobbying dollars paid off in the SECURE Act. The onus of responsibility now falls to insurance providers, not employers, which opens the doors for employers to start considering annuities as options in their retirement plans.

Annuities are complex investments that pay out income over time. Before choosing one in your employer-sponsored plan, speak with a financial advisor about the exact implications, risks, and rewards.

4. More Options for Part-Time Employees

Under the previous laws, employers only had to offer participation in their retirement plans to employees who worked at least 1,000 hours per year for them.

The SECURE Act requires employers to allow more part-time employees to opt in. While the previous rule still applies, employers must also allow access to all employees who work at least 500 hours per year for three consecutive years or more.

The requirement protects part-time employees increasingly piecemealing their income and participating in the gig economy. Saving for retirement is hard enough, even with an employer-sponsored plan. Surviving in a job without benefits makes it dramatically harder.

5. Penalty-Free Withdrawals for New Children

Having children is expensive. Really, really expensive.

The SECURE Act allows account holders to withdraw up to $5,000 from their retirement account when they give birth or adopt a child. The withdrawal is subject to regular income taxes, but it is not subject to the standard 10% penalty.

While not an earth-shaking change, it does make retirement accounts more flexible and encourages Americans to contribute money toward them. The new-child exception works similarly to the down payment exception, which allows account holders to withdraw up to $10,000 from their IRA penalty-free to buy a home.

6. Multiple-Employer Retirement Plans

In a bid to help more employers offer retirement plans, the SECURE Act makes it easier for multiple employers to band together to negotiate affordable plans.

The law removes tax penalties previously faced by multiple-employer plans if one employer failed to meet the requirements. The old law penalized all participating employers. The SECURE Act removed this so-called one-bad-apple rule.

The act also removes another restrictive rule: the requirement that employers must share a “common characteristic” to come together to offer their workers a multiple-employer plan. In practice, that typically meant only companies in the same industry formed multiemployer plans. Now, any group of employers can come together to negotiate with plan administrators and provide the best possible plans for employees.

7. Incentives for Auto-Enrollment

A 2019 study by T. Rowe Price found a startling fact. When employees had to opt into employer-sponsored plans voluntarily, only 44% of them did so. When the employer auto-enrolled them, requiring them to opt out rather than in, the participation rate nearly doubled to 86%.

It makes sense. People tend to take the path of least resistance. But it also means one of the easiest ways to increase employee participation is simply to encourage employers to auto-enroll them.

The SECURE Act creates a new tax credit for employers who start auto-enrolling their employees in a company retirement plan. Though it’s only $500, the tax credit applies not only to employers who start a new retirement plan but also to those who start auto-enrollment for their existing plan. Employers can take it for up to three years after they start auto-enrolling employees for a maximum total tax credit of $1,500.

Finally, it raises the ceiling on what percentage of income employers can set as a default employee contribution. The previous default limit was 10%, and the SECURE Act raises it to 15%.

8. Increase in Tax Credit for New Employer-Sponsored Retirement Plans

Under the previous law, employers could take a maximum tax credit of $500 for up to three years when they started offering a retirement plan for employees.

The SECURE Act expands the tax credit. Employers can claim a tax credit of $250 per eligible employee covered, with a maximum tax credit of $5,000. Sweetening the pot, employers can also take the $500 tax credit for auto-enrolling employees on top of the tax credit for creating a new employer-sponsored retirement plan.

While these numbers seem small, they help offset the costs for small businesses who want to offer retirement plans but have little spare money to spend on them.


Final Word

The SECURE Act is 125 pages long and includes additional provisions not listed above. For example, it requires 401(k) plan administrators to offer “lifetime income disclosure statements,” breaking down the income potential of various investments. Insurance companies can use these income potential breakdowns as a marketing device to pitch their annuities by demonstrating with convenient examples just how much better off they think employees will be if they opt for an annuity over “high-risk” equity funds.

For a full explanation of how the SECURE Act impacts your retirement planning, estate planning, and tax planning, speak to your financial advisor. While many of the changes in the act involve simple tweaks, the change in rules for inherited IRA funds, in particular, has complex implications for your estate planning.

When in doubt, invest more money in your tax-sheltered retirement accounts. After all, it’s better to build too much wealth for retirement than not enough.

Source: moneycrashers.com

How to Choose a 401(k) Beneficiary: Rules & Options

Choosing a 401(k) beneficiary ensures that any unused funds in your account are dispersed according to your wishes after you pass away. Whether you’re married, single, or in a domestic partnership, naming a beneficiary simplifies the estate process and makes it easier for your heirs to receive the money.

There’s room on 401(k) beneficiary forms for both a primary and contingent beneficiary. Before making any decisions on a beneficiary and a backup, it can help to familiarize yourself with 401(k) beneficiary rules and options.

Why It’s Important to Name 401(k) Beneficiaries

If you die without a beneficiary listed on your 401(k) account, the distribution of the account may have to go through the probate process. While some plans with unnamed beneficiaries automatically default to a surviving spouse, others do not. If that’s the case—or if there is no surviving spouse—the 401(k) account becomes part of the estate that goes through probate as part of the will review.

401(k) may house a substantial amount of your retirement savings. How you approach choosing a 401(k) beneficiary depends on your personal situation. For married individuals, it’s common to choose a spouse. Some people choose to name a domestic partner or your children as beneficiaries.

Another option is to choose multiple beneficiaries, like multiple children or siblings. In this scenario, you can either elect for all beneficiaries to receive equal portions of your remaining 401(k) account, or assign each individual different percentages.

For example, you could allocate 25% to each of four children, or you could choose to leave 50% to one child, 25% to another, and 12.5% to the other two.

In addition to choosing a primary beneficiary, you must also choose a contingent beneficiary. This individual only receives your 401(k) funds if the primary beneficiary passes away. If the primary beneficiary is still alive, the contingent beneficiary doesn’t receive any funds.

401(k) Beneficiary Rules and Restrictions

Really, an individual can choose anyone they want to be a 401(k) beneficiary, with a few limitations. There are only a few restrictions and requirements on who may be named a beneficiary.

•  Minor children cannot be direct beneficiaries. They must have a named guardian oversee the inherited funds on their behalf, which will be chosen by a court if not specifically named. Choosing a reliable guardian helps to ensure the children’s inheritance is managed well until they reach adulthood.

•  A waiver may be required if someone other than a spouse is designated. Accounts that are ruled by the Employee Retirement Income Security Act (ERISA) have 401(k) spouse beneficiary rules. A spousal waiver is required if you designate less than 50% of your account to your spouse. Your plan administrator can tell you whether or not this rule applies to your specific 401(k).

How to Name Multiple 401(k) Beneficiaries

You are allowed to have multiple 401(k) beneficiaries, both for a single account and across multiple accounts. You must name them for each account, which gives you flexibility in how you want to pass on those funds.

When naming multiple beneficiaries, it’s common practice to divide the account by percentage, since the dollar amounts may vary based on what you use during your lifetime and investment performance.

However, also consider how the funds will be taxed for each individual . Spouse and non-spouse beneficiaries have different rules for an inherited 401(k). Spouses usually have more options available, but they differ depending on the spouse’s age and your age at the time of passing. In many cases, the spouse may roll over the funds into a specific spousal or inherited IRA.

Non-spouse beneficiaries may face higher tax consequences, but may be able to extend or stretch any required distributions over their life span to reduce their taxable income. They can also take out the money as a lump sum, which will be subject to income tax, but not the 10% early withdrawal penalty.

What to Do After Naming Beneficiaries

Once you’ve selected one or more beneficiaries, take the following steps to notify your heirs and to continually review and update your decisions as you move through various life stages.

Inform Your Beneficiaries

Naming your beneficiaries on your 401(k) plan makes sure your wishes are legally upheld, but you’ll make the inheritance process easier by telling your beneficiaries about your accounts. They’ll need to know where and how to access the account funds, especially since 401(k) accounts can be distributed outside of probate, making the process much faster than other elements of your estate plan.

For all of your accounts, including a 401(k), it’s a good idea to keep a list of financial institutions and account numbers. This makes it easier for your beneficiaries to access the funds quickly after your death. Plus, there may be rules on the pace at which the funds must be dispersed after your death—in some cases, your beneficiary may need to spread out withdrawals of the entire account over the 10 years following your death.

Revise After Major Life Changes

Managing your 401(k) beneficiaries isn’t necessarily a one-time task. It’s important to regularly review and update your decisions, especially as major life events occur. The most common events include marriage, divorce, birth, and death.

Common Life Stages

Before you get married, you may decide to list a parent or sibling as your beneficiary. But you’ll likely want to update that to your spouse or domestic partner, should you have one. At a certain point, you may also wish to add your children, especially once they reach adulthood and can be named as direct beneficiaries.

Divorce

It’s particularly important to update your named beneficiaries if you go through a divorce. If you don’t revise your 401(k) account, your ex-spouse could end up receiving those benefits—even if your will has been changed.

Death of a Beneficiary

Should your primary beneficiary die before you do, your contingent beneficiary will receive your 401(k) funds if you pass away. Any time a major death happens in your family, take the time to see how that impacts your own estate planning wishes. If your spouse passes away, for instance, you may wish to name your children as beneficiaries.

Second Marriages and Blended Families

Also note that the spouse rules apply for second marriages as well, whether following divorce or death of your first spouse. Your 401(k) automatically goes to your spouse if no other beneficiary is named. And if you assign them less than 50%, you’ll need that spousal waiver. Financial planning for blended families takes thought and communication, especially if you remarry later in life and want some or all of your assets to go to your children.

Manage Your Account Well

borrow from your 401(k), this can cause issues if you pass away with an outstanding balance. The loan principal will likely be deducted from your estate, which can limit how much your heirs actually receive.

Also try to streamline multiple 401(k) accounts as you change jobs and open new employer-sponsored plans. There are several ways to rollover your 401(k), which makes it easier for you to track and update your beneficiaries. It also simplifies things for your heirs after you pass away, because they don’t have to track down multiple accounts.

How to Update 401(k) Beneficiaries

Check with your 401(k) plan administrator to find out how to update your beneficiary information. Usually you’ll need to just fill out a form or log into your online retirement account.

Typically, you need the following information for each beneficiary:

•  Type of beneficiary
•  Full name
•  Birth date
•  Potentially their Social Security number

Although your named beneficiaries on the account supersede anything written in your will, it’s still smart to update that document as well. This can help circumvent legal challenges for your heirs after you pass away.

The Takeaway

A financial plan at any age should include how to distribute your assets should you pass away. The best way to manage your 401(k) is to formally name one or more beneficiaries on the account. This helps speed up the process by avoiding probate.

A named beneficiary trumps anything stated in your will. That’s why it’s so important to regularly review these designations to make sure the right people are identified to inherit your 401(k) assets.

Preparing for retirement? SoFi Invest® offers both traditional and Roth IRAs to help you reach your goals.

Find out how SoFi can help you with a financial plan for retirement.


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Can an Inherited IRA Be Rolled Over?

Can an Inherited IRA Be Rolled Over? – SmartAsset

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If you inherit an individual retirement account (IRA) from a spouse, you can treat it like your own IRA or roll it over into a traditional IRA you already have. If you are the beneficiary of an IRA inherited from someone other than your spouse, the options are different. You can’t roll it over into an existing IRA. However, you can transfer it into a new IRA, if you satisfy certain requirements. In either case, failing to follow the rules can result in the IRA being treated as a taxable distribution. A financial advisor can guide you as you deal with an inherited IRA so that you don’t needlessly incur any tax liabilities.

Inheriting an IRA From a Spouse

The owner of an IRA can designate anyone to be the beneficiary of an IRA or other account after the owner’s death. Often, the beneficiary is the surviving spouse. Then the beneficiary has some choices.

First, the surviving spouse can name himself or herself as the owner of the inherited account. In this event, it will be as if the surviving spouse had always owned the account. The same distribution rules will apply.

Second, the new owner can roll it over into an existing IRA. This can be a traditional IRA or, after conversion, a Roth IRA. Any taxable distributions can be rolled over into another plan, such as a qualified employer retirement plan, a 401(a) or 403(b) annuity plan or a state or local government’s 457(b) deferred compensation plan.

If the rollover route is selected, it can be accomplished by a direct trustee-to-trustee transaction.

Or it can be done by taking the funds from the account as a distribution and then depositing the funds into another IRA within 60 days. Waiting longer than 60 days to re-deposit the funds into an IRA risks having the distribution taxed like income.

The most desirable way is to use the direct trustee-to-trustee transaction. This can be set up in advance if the wishes of the original owner regarding the inheritance are known.

The age of the beneficiary determines how the inherited IRA will be taxed. That means, for instance, any distributions before age 59 ½ will get charged a 10% penalty in addition to being subject income taxes. And starting at age 72, the beneficiary will have to start taking the annual required minimum distributions (RMDs.) If a beneficiary was 70.5 or older on Dec. 31, 2019, he or she has to start taking RMDs immediately.

Inheriting From a Non-Spouse

If you inherit an IRA from someone other than your spouse, you can’t just roll it over. In this case, the usual approach is to open a new IRA called an inherited IRA. This IRA will stay in the name of the deceased person and the person who inherited it will be named as beneficiary. The inheritor can’t make any contributions to the inherited IRA or roll any funds into or out of it.

The funds can’t just stay in the inherited IRA forever, or even until the new beneficiary reaches the age at which they’d have to start being withdrawn. In most cases, all the funds have to be distributed within 10 years of the original owner’s death. If it’s a Roth IRA, all the interest usually has to be distributed within five years of the owner’s death.

Rather than opening an inherited IRA, the person who inherited the IRA can take a lump sump distribution. Even if the person is younger than 59 ½, the distribution won’t be subject to the usual 10% penalty for an early withdrawal. However, the distributed funds will be subject to income taxes.

Bottom Line

Inheriting an IRA from a spouse means the beneficiary can simply name himself or herself as new owner of the account and treat it as if it had been theirs all along. Or the bereaved spouse can roll the funds into a new account. If the inheritor is someone other than a spouse, the usual approach is to set up an inherited IRA, keeping the original owner’s name on the account and naming the inheritor as the beneficiary. But sometimes it makes more sense to disclaim an inherited IRA if, for example, the inherited funds would mean the beneficiary’s estate would be so large it would incur the federal estate tax. In the event an IRA is disclaimed, the funds would go to other beneficiaries named on the account.

Tips for Handling IRAs

  • If you inherit an IRA or expect to – especially if your benefactor is someone other than your spouse – consider discussing the best way to handle it with an experienced financial advisor. Finding one doesn’t have to be hard. SmartAsset’s free tool matches you with financial advisors in your area in five minutes. If you’re ready to be matched with local advisors who will help you achieve your financial goals, get started now.
  • One factor in deciding whether to claim and how to claim an inherited IRA is how much you will get from Social Security. That’s where a free, easy-to-use retirement calculator comes in very handy.

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Mark Henricks Mark Henricks has reported on personal finance, investing, retirement, entrepreneurship and other topics for more than 30 years. His freelance byline has appeared on CNBC.com and in The Wall Street Journal, The New York Times, The Washington Post, Kiplinger’s Personal Finance and other leading publications. Mark has written books including, “Not Just A Living: The Complete Guide to Creating a Business That Gives You A Life.” His favorite reporting is the kind that helps ordinary people increase their personal wealth and life satisfaction. A graduate of the University of Texas journalism program, he lives in Austin, Texas. In his spare time he enjoys reading, volunteering, performing in an acoustic music duo, whitewater kayaking, wilderness backpacking and competing in triathlons.

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