Estate Planning After the SECURE Act: How Will It Affect You and the Beneficiaries of Your Retirement Accounts?
THE COUNSELOR
Volume 10 • Issue 1 • January 2020
The Counselor is a monthly newsletter of Hallock & Hallock dedicated to providing useful information on estate planning, business succession planning and charitable planning issues. In this month’s issue, we will discuss the SECURE Act, the most significant legislation affecting retirement accounts in years. If you are interested in learning more about the ideas and processes discussed in this newsletter, please contact us for an initial consultation.
The bill known as the “Setting Every Community Up for Retirement Enhancement Act (SECURE Act for short) passed the House of Representatives on May 23, 2019 by an overwhelmingly bi-partisan vote of 417 to 3. After seeming to have died in the Senate, the SECURE Act finally won approval on December 19, 2019. The next day it was signed into law by the President and became effective on January 1, 2020. The SECURE Act is likely the most impactful legislation affecting retirement accounts in decades.
The SECURE Act includes several major changes:
It increases the required beginning date (RBD) for required minimum distributions (RMDs) from your individual retirement accounts from age 70 ½ to 72 years of age, allowing for additional years of tax deferral.
It eliminates the maximum age restriction of 70 ½ for making contributions to qualified retirement accounts.
It allows penalty-free withdrawals of $5,000 by each parent in the year of birth or adoption of a child.
However, perhaps the most significant change will affect the beneficiaries of your retirement accounts. Historically, a non-spouse beneficiary could choose to take distributions over their life expectancy (this was known as a “stretch”) or liquidate the account and pay taxes within five years of the original account owner’s death (the five-year rule). Under the SECURE Act, most non-spouse beneficiaries are now required to withdraw inherited account balances within ten years of the account owner’s death. There are exceptions for beneficiaries who are either:
a minor child of the account owner (until the child reaches the “age of majority”);
a disabled individual;
a chronically ill individual; or
an individual who is not more than ten years younger than the account owner.
This shorter ten-year time frame for taking distributions will result in the acceleration of income tax due, possibly causing beneficiaries to be bumped into a higher income tax bracket, thus receiving less of the funds contained in the retirement account than you may have originally anticipated.
The Conduit Crisis
Your estate planning goals likely include more than just tax considerations. You might be concerned with protecting a beneficiary’s inheritance from their creditors, future lawsuits, or a divorcing spouse. Therefore, you may have named a trust as the beneficiary of your retirement account. Many trusts drafted to receive retirement accounts include a “conduit” provision, under the old law, the trustee would only distribute required minimum distributions (RMDs) to the trust beneficiaries, allowing the continued “stretch” based upon their age and life expectancy. A conduit trust protected the account balance, and only RMDs--much smaller amounts--were vulnerable to creditors and divorcing spouses. With the SECURE Act’s passage, a conduit trust structure will no longer work well. Regardless of the amount, the conduit provision requires that the RMD taken by the trustee has to be distributed to or for the benefit of the beneficiary. Instead of protecting a majority of the account by only distributing small RMDs to the beneficiary, the entire amount of the retirement account will be in the beneficiary’s control within ten years if a conduit provision is used.
Depending on the estate planning goals, an “accumulation trust” is an alternative trust structure through which the trustee can take any required distributions and continue to hold them in a protected trust for your beneficiaries. However, this comes with a significant tax consequence that should be considered prior to making this decision as the amount retained in the trust would be subject to income taxes at the trust rate as opposed to an individual rate. Because of compressed brackets, trusts are often taxed at higher rates than individuals.
Consider Additional Trust Strategies
For most Americans, a retirement account is the largest asset they will own when they pass away. While many accounts offer simple beneficiary designation forms that allow you to name an individual or charity to receive funds when you pass away, this form alone does not take into consideration your estate planning goals and the unique circumstances of your beneficiary. A trust is a great tool to address the mandatory ten-year withdrawal rule under the new Act, providing continued protection of a beneficiary’s inheritance. The following are some trust options to consider:
Standalone Retirement Trust (with accumulation provision): These trusts are drafted specifically for retirement account(s). They ensures that any specific instructions pertaining to the retirement account are not muddled together with those for other assets and they allow a trustee to accumulate required distributions in a trust, rather than distributing them outright to a beneficiary.
Irrevocable Life Insurance Trust (ILIT): Retirement account assets could be used to purchase life insurance on the account owner. Life insurance can add some additional cash to the gross estate to offset the accelerated income tax liability and leverage up the amount the beneficiaries receive at death. The ILIT can protect the proceeds from a beneficiary’s creditors and give the trustee discretion on how and when to make distributions. The ILIT can be structured to remove the proceeds from your gross estate if there is concern about an estate tax being due.
Charitable Remainder Trust (CRT): A CRT is great for those who are charitably inclined as beneficiaries may not receive as much upon the account owner’s death. The CRT can create a stream of income to beneficiaries similar to the stretch IRA with the remainder going tax free to your favorite charity.
What Should You Do Now?
Review beneficiary designations. With the changes to the laws surrounding retirement accounts, now is a great time to review and confirm your retirement account information. Whichever estate planning strategy is appropriate for you, it is important that your beneficiary designation is filled out correctly. If your intention is for the retirement account to go into a trust for a beneficiary, the trust must be properly named as the primary beneficiary. If you want the primary beneficiary to be an individual, he or she must be named. Ensure you have listed contingent beneficiaries as well.
Meet with your advisory team. As soon as possible, you should meet with your advisory team to discuss your current plan and how the SECURE Act affects you.
If you have questions about the SECURE Act, give us a call today to schedule an appointment to discuss how your estate plan and retirement accounts are impacted.
This Newsletter is for informational purposes only and not for the purpose of providing legal advice. You should contact an attorney to obtain advice with respect to any particular issue or problem. Nothing herein creates an attorney-client relationship between Hallock & Hallock and the reader.