BY Catherine Lightfoot, CPA, CHBC, Director of Healthcare at EEPB
Are you approaching retirement age? If so, you will want to know about the SECURE 2.0 Act signed into law by President Biden on December 29, 2022. This most recent legislation makes notable changes to qualified retirement plans, expanding upon the original SECURE Act of 2019. The primary purpose of both laws is to encourage more savings for retirement by extending the age at which withdrawals must be made (more about that below). While several provisions do not go into effect right away, there are some key considerations to integrate into your current retirement and estate planning.
Required Minimum Distribution Age
As you get closer to retiring, you need to be mindful of the required minimum distribution (RMD) rules. An RMD is the minimum amount you must withdraw from your IRA or retirement plan account when you reach age 72. Starting in 2023, the SECURE 2.0 Act increases the age when RMDs must begin to 73—for taxpayers who turn 72 after December 31, 2022. The age limit will again increase in 2033 to as high as 75.
Designated Roth accounts in a 401(k) or 403(b) plan are also subject to the RMD rules for 2022 and 2023. Starting in 2024, however, required distributions will no longer need to be taken from Roth 401(k) accounts.
Exception: If you are still working, not a 5% owner, and paying into an employee-sponsored 401K plan, your plan may allow you to delay taking RMDs from that workplace retirement plan until you stop working for that employer.
Penalties to Avoid
Be aware that missing an RMD can result in a severe penalty, with 50% of the RMD amount charged as an excise tax in years past (luckily, the Secure 2.0 ACT reduces the penalty to 25%). Regardless, fixing a missed RMD is not an easy task. First, you have to report it as taxable income and pay regular income tax on the ordinary income, as high as 37%. After that, you still owe the additional 50% (or 25%) excise tax, making the final tax on a missed RMD as high as 87%! This is why it is so important to understand when you must start taking your RMD.
Inherited IRAs
By now, you are probably wondering about inherited IRAs. The Secure ACT of 2019 eliminated the “stretch inherited IRA” that allowed withdrawals to be taken over a beneficiary’s lifetime. The new law requires non-spouse beneficiaries of IRAs to take full payouts within 10 years after the death of the initial account owner. There are exemptions for those beneficiaries who are not more than ten years younger than the original account holder. Additionally, people who are disabled and certain chronically ill beneficiaries are still allowed to stretch withdrawals for their lifetime.
If you have or are expecting to inherit an IRA from a relative after January 1, 2020, you need to review your RMD requirements to be sure you are following the current law.
Qualified Charitable Distributions (QCD)
Some have been steady savers in their retirement accounts with solid earnings through the years due to a strong market. The RMD amount often creates a tax issue for the financially secure investor having to take out monies and be taxed on them, even when the funds are not needed to support their lifestyle.
If you are charitable-minded, the QMD offers a bit of an opportunity to reduce your tax liability. You are allowed to make up to $100,000 annual direct distribution to a charity out of your retirement account. The amount counts toward your RMD requirement but is not picked up as taxable income. You also do not receive a charitable deduction for the amount. The tax benefit is that the income is not recognized and yet still counts as an RMD. Starting in 2024, the $100,000 annual limit on QCDs will be indexed for inflation.
Increased Catch-Up Contributions
In 2023, the retirement plan catch-up contribution for those over the age of 50 is $7,500. Starting in 2025, catch-up contributions for those in the age range of 60-63 will be increased to the greater of $10,000 or 50% more than the regular catch-up contribution amount in 2024. Catch-up contributions will also be indexed for inflation starting in 2025.
529 Plan Rollovers to Roth IRAs
What happens when the kids are done with college and there are still funds in the 529 account? Once all possible education funding is over, the account has no purpose and is just an idle investment that cannot be touched—unless the funds are transferred. The amount of previously untaxed earnings in the account becomes taxable income when the account is closed.
The SECURE 2.0 ACT now gives you another option, and it is a pretty good one. Starting in 2023, beneficiaries of 529 plans may roll over up to $35,000 during their lifetime to a Roth IRA. The rollovers will be subject to annual contribution limits, and the 529 plan must have been open for more than fifteen years.
Conclusion
As with many new laws, there are good and bad aspects. In this case, the original SECURE Act took away the stretch on some inherited IRAs. On the other hand, you will be able to take advantage of some of the expanded opportunities for retirement savings that the new laws allow. Discuss with your accountant what strategy makes the most sense to secure your financial future.