By: Randall A. Denha, J.D., LL.M.*
President Trump signed the SECURE Act (“the Act”) last December as part of the government’s spending bill and it will inevitably affect most retirement plan participants, for better or worse. The SECURE legislation — which stands for “Setting Every Community Up for Retirement Enhancement” — puts into place numerous provisions intended to strengthen retirement security across the country. This far-reaching bill includes significant provisions aimed at increasing access to tax-advantaged accounts and preventing older Americans from outliving their assets.
The Act increases the age at which participants must begin taking required minimum distributions (RMDs) from 70½ to 72. With participants living longer they can now leave assets inside a plan growing tax deferred for a bit longer. Under pre-Act law, contributions to IRAs had to stop at age 70 ½ (the same age at which RMDs had to begin under prior law). If the participant would turn 70 ½ before the end of the tax year, additional contributions to an IRA were not permitted. Under the Act there are no longer any limits on the age through which contributions can be made. With longevity many people continue working long past the traditional age-65 retirement and this change will give them the flexibility to continue contributing to tax advantages IRAs.
In the context your estate plan, the most notable change resulting from the Act, is the elimination of the so-called “stretch” provision for most (but not all) non-spouse beneficiaries of inherited IRAs and other retirement accounts. Under prior law, non-spouse designated beneficiaries could take distributions over their life expectancy, but for many retirement account participants who pass away after 2019, beneficiaries will have only’10 years to draw down the account. There are no required minimum distributions within those 10 years, but the entire balance must be distributed after the 10th year.
Of course with every rule, there are important exceptions to the 10-year rule as follows:
- A surviving spouse may still roll over inherited assets into the spouse’s own IRA. A conduit trust for the surviving spouse will still preserve life expectancy payouts for the surviving spouse. The remaining assets in the IRA or retirement account must be distributed within 10 years after the death of the surviving spouse.
- A minor child as beneficiary – the assets can be distributed on a slower schedule until the minor reaches majority, and then the 10-year rule applies, which requires the remaining assets be distributed within 10 years. Notably, the age of majority is not necessarily age 18. If the child has not completed a “specified course of education,” a child may not be considered to have attained the age of majority until reaching age 26. However, the regulations do not define what “specified course of education” means.
- A disabled person as beneficiary – while the disability exists, the 10-year requirement is suspended and the old rules apply; once the disability ceases or the disabled person dies, the remaining assets must be distributed within 10 years.
- A chronically ill individual as beneficiary – who has provided the applicable certification that the illness is indefinite and reasonably expected to be lengthy in nature – the 10 year rule is suspended until the death of the individual.
- A person who is not more than 10 years younger than the owner of the assets – the 10 year rule is suspended until the death of that beneficiary.
These beneficiaries named in the exceptions above are known as “Eligible Designated Beneficiaries” (EDBs).
Prior to the Act, after the participant died, beneficiaries other than the participant’s surviving spouse were required to withdraw the assets from an inherited account (1) within five years of the participant’s death (the “5-Year Rule”) if the participant died before his/her required beginning date, (2) over the participant’s remaining life expectancy if he/she died after his/her required beginning date, or (3) over the life expectancy of an individual designated beneficiary.
If structured carefully, certain trusts, such as “conduit trusts”, were able to avoid the 5-Year Rule and use the life expectancy of the oldest trust beneficiary. Under a conduit trust, all distributions made from the retirement plan to the trust during the lifetime of the “conduit” (life) beneficiary of the trust must be distributed more or less immediately to the individual life beneficiary. The conduit beneficiary is considered the sole beneficiary of that trust and of the plan for RMD purposes, regardless of who will inherit the trust and remaining plan benefits if the conduit beneficiary dies prior to complete distribution of the retirement plan. An alternative to a conduit trust is an “accumulation trust”. With an accumulation trust, the trustee can “accumulate” retirement plan distributions in the trust for possible later distribution to another beneficiary. However, all beneficiaries who might ever be entitled to receive such accumulations are “counted” as beneficiaries for purposes of applying the RMD rules. An accumulation trust qualifies for stretch treatment only if all of the countable beneficiaries are identifiable individuals.
As under existing rules, leaving retirement benefits for the benefit of minor children is difficult without either accelerating the taxation of the benefits or accelerating the children’s control over the plan. A conduit trust for a minor child is entitled to the life expectancy payout, because the child is considered the “sole designated beneficiary” of the retirement plan. However, this entitlement does not last for the child’s entire life—only until he/she reaches majority, at which point the trust becomes subject to the 10-year rule. Thus, all benefits would have to be distributed outright to the minor within 10 years after he/she attained majority, which may or may not be what the parents would want. An accumulation trust for the child enables the parents, through their chosen trustee, to control the funds until the child reaches a more mature age—but such a trust would not be an EDB because the minor child is not considered the sole beneficiary of an accumulation trust, even if he/she is the sole lifetime beneficiary. Thus, this trust would have to cash out the retirement plan within 10 years after the parent’s death, causing an accelerated tax bill at high trust income tax rates ( a trust hits the highest tax bracket at only $12,950 of income, compared to $622,050 for married couples and $518,400 for single persons). Many parents (and others seeking to benefit young children) will face this planning dilemma: They do not want to give control to a very young child, but distributions taxable to a trust will pay the highest possible income tax rate. The conduit trust (formerly a solution to this dilemma, due to its guaranteed designated beneficiary status and its small required distributions during the beneficiary’s youth) is no longer available to solve this problem – except for children of the participant if the participant is willing to accept a full payout 10 years after the child’s attaining majority. Realistically, in most cases those seeking to benefit very young beneficiaries may have to focus more on how to pay the taxes rather than on how to defer them.
The Act will have a significant impact on many estate and retirement plans. The implications will vary by participant and could have very different consequences depending on each participant’s goals, family situation, assets inside IRAs or retirement plans or outside them. If you have only named individuals as beneficiaries of your retirement accounts, no changes are probably necessary. However, if a trust is named as the beneficiary of your retirement accounts you should consult with us to determine whether the designation should be changed or your trust should be revised.
*Randall A. Denha, J.D., LL.M.., principal and founder of the law firm of Denha & Associates, PLLC with offices in Birmingham, MI and West Bloomfield, MI. Mr. Denha continues to be recognized as a “Super Lawyer” by Michigan Super Lawyers in the areas of Trusts and Estates Law; a “Top Lawyer” by D Business Magazine in the areas of Estate Planning and Tax Law; a Five Star Wealth Planning Professional; Michigan Best Lawyers; Michigan Lawyer of Distinction and a New York Times Top Attorney in Michigan. Mr. Denha can be reached at 248-265-4100 or by email at firstname.lastname@example.org