This year has been a rollercoaster ride. The COVID-19 crisis and the ensuing shock to the global financial markets have captured the headlines and changed the way we live. With everything that has occurred, it is not surprising that the SECURE (Setting Every Community Up for Retirement Enhancement) Act, which took effect January 1, 2020, has been nearly forgotten. The SECURE Act was drafted to help Americans save for retirement, and made several positive changes such as raising the age for required minimum distributions (RMD), as well as removing the age limit for making IRA contributions. This provided a great benefit to savers, but the SECURE Act also had some downsides, such as the demise of the “Stretch IRA”.
The SECURE Act and Inherited IRAs
For over 30 years, the “Stretch IRA” has been the cornerstone of estate planning as it relates to passing on wealth held in retirement plans. By handing down your retirement plan or IRA to a “designated beneficiary”, the required minimum distributions could be “stretched out” over the beneficiary’s life expectancy, providing a tax efficient means of passing on wealth. The SECURE Act changed all that by requiring most IRA beneficiaries to distribute the account completely within ten years beginning the year following the account owner’s death. There are exceptions for five special types of beneficiaries, now referred to as “eligible designated beneficiaries”, which includes the surviving spouse of the account owner, the minor child of the account owner, a disabled beneficiary, a chronically ill beneficiary, and a beneficiary less than 10 years younger than the account owner. These eligible designated beneficiaries can for the most part follow the old rules. Also, the changes primarily only apply to retirement accounts inherited beginning in 2020.
Those who have retirement plan beneficiaries that do not meet the definition of “eligible designated beneficiaries” should review their estate plan in light of these changes to determine if the current rules will require changes to their plan.
Other Estate Planning Implications
Trusts have long been used by estate planning attorneys as a valuable tool to distribute retirement accounts to beneficiaries while retaining some control over the distributions after the account owner’s death. As long as the trust was structured as a “see through” trust, meaning that there was a clearly identifiable person listed as beneficiary, then the retirement plan could be passed on to the trust and the required minimum distributions were based on the trust beneficiary’s life expectancy. But, the new rules create a problem – many trusts drafted prior to the SECURE Act no longer qualify for this special treatment, and the consequences can be significant. Instead of allowing the trust beneficiary to take distributions over their life expectancy, many of these trusts will now be forced to distribute the entire IRA account balance to the beneficiary within ten years following the account owner’s death. Some trusts, written as “conduit trusts”, will now prevent distributions until year ten, at which time the entire account balance must be distributed, resulting in a hefty tax bill.
Trusts are complex documents, and there are many different types which are each affected differently by the SECURE Act. If you have a retirement account or IRA with a trust listed as beneficiary, you should meet with your estate planning attorney and trusted financial advisor to determine how you are affected.
Rick Bernard | MBA