Jan 10

Thanks to the SECURE Act, Your IRA Has Really Lost Its Stretch!

At the end of December 2019, Congress passed and the President signed into law the Setting Every Community Up for Retirement Enhancement Act, known as the SECURE Act.  The Act is effective for IRAs, Roth IRAs and most 401(k) and 403(b) accounts (collectively “IRAs”) of individuals who die after December 31, 2019.

For IRA owners who died before January 1, 2020, distributions from an IRA can generally be made to one or more individuals (and to certain trusts) over the receiving individual’s (or receiving trust beneficiary’s) life expectancy.  That rule generally created the opportunity for income tax on IRA distributions to be deferred over the life expectancy of the IRA owner’s beneficiaries.  Because of the opportunity for a significant deferral of income tax, IRAs payable to those beneficiaries were sometimes referred to as “stretch” IRAs.

Under the SECURE Act, IRAs have lost their stretch.

Distributions from IRAs of individuals who die on or after January 1, 2020, other than distributions to “Eligible Designated Beneficiaries” (defined below), must be paid entirely by the end of the year which includes the 10th anniversary of the IRA owner’s death.  This new rule will result in an acceleration of income tax payments by many IRA beneficiaries.  Under this rule, IRA distributions can be deferred entirely until the 10th year.  For most beneficiaries, though, waiting until the 10th year to withdraw all of a beneficiary’s share of an IRA will result in a “bunching” of income that could put the beneficiary in a higher marginal income tax bracket.  Therefore, it is typically advisable to spread the distributions over the 10-year period.

10-year rule does not apply to an “Eligible Designated Beneficiary.”  That term means the IRA owner’s spouse, a minor beneficiary, a disabled beneficiary, and a chronically ill beneficiary, as well as a beneficiary who is less than 10 years younger than the IRA owner.  Consequently, a surviving spouse can still rollover a deceased spouse’s IRA into his or her own IRA and defer distributions until the “required beginning date.”  Under the SECURE Act the required beginning date is April 1st of the year following the year during which the IRA owner (or the surviving spouse with an IRA rollover) turns age 72 (not age 70½, as under prior law).

*    *    *    *    *    *    *    *    *    *    *

From an estate planning perspective, going forward many estates practitioners will recommend to clients with adult beneficiaries who are able to manage and pay tax on IRA distributions to have the IRA paid outright, rather than in trust, to the beneficiaries (even if under the IRA owner’s will and other estate planning documents all of the other assets which pass at death are to be held in trust for those beneficiaries). Because the SECURE Act’s new 10-year rule accelerates the income tax on IRA distributions, the benefits of trusts as beneficiaries of IRAs are now diminished.

The SECURE Act includes many changes that may require you to reevaluate your retirement and estate planning strategies. We recommend to our clients that, at minimum, they review their beneficiary designation forms for IRAs, Roth IRAs, 401(k) Plans, and 403(b) Plans and consult with their estate planning counsel.

Leave a Reply