The new year brought important changes to rules governing how Americans save for retirement. A federal law that became effective on Jan. 1, the Setting Every Community Up For Retirement Enhancement (SECURE) Act, impacts individuals at every point on their financial journey, from those just starting their working lives to seniors winding up their careers.
The law intends to expand retirement savings, noted Patricia Hausknost, City National Bank wealth planner. It has important applications for business owners, part-time workers, those with student-loan debt, graduate students, seniors and their heirs.
Here's what you need to know:
The SECURE Act brings important changes for those at retirement age.
Before the new law, individuals had to take required minimum distributions, or RMDs, from most kinds of retirement accounts starting in the year they turned 70 ½ .
Now, those who turn 70 ½ after Jan. 1, 2020 won't have to take the required minimum distribution until the calendar year in which they turn 72. This change is less crucial for those who need to live on their retirement savings, but it can be beneficial to individuals of means who prefer to wait longer before drawing down their retirement savings.
The act also allows older workers to keep making contributions to a traditional IRA after age 70½, a departure from the prior law. This benefits those earning income who want to keep contributing to a tax-deferred IRA and don't need to tap into their retirement savings.
Previously, those who inherited an IRA could take the rest of their lives to draw down the account through a "stretch IRA" strategy, which allowed them to spread out the tax bills on their inheritance.
The new law restricts the use of this strategy to spouses, children younger than 18, disabled or chronically ill individuals, or those no more than 10 years younger than the person who bequeathed them the account.
Other beneficiaries will now need to draw all funds from a traditional or Roth IRA within 10 calendar years of the IRA holder's death. The 10-year rule will also apply to those minors once they turn 18.
This IRA inheritance change may require account holders to review their beneficiary choices to ensure they're taking the most favorable approach.
The act requires employers to allow permanent part-time workers — those working at least 500 hours a year for three consecutive years, or 1,000 hours in one year — to participate in the company's 401(k) plan, starting in 2021.
The 1,000-hour annual requirement already existed, Hausknost noted. By including those working at least 500 hours annually for 36 straight months, the law allows employees on the job roughly 10 hours a week to contribute to a 401(k) retirement plan.
Small businesses may be eligible for a $500-a-year tax credit for three years if they establish a new, automatic-enrollment 401(k) or SIMPLE IRA plan for their employees. This would be on top of a tax credit of up to $5,000 a year for three years to offset the startup costs involved in setting up a plan. That's an increase from the current $500 maximum tax credit.
Small businesses also will have the opportunity to join a multi-employer, pooled 401(k) plan as of next year. Many small businesses don't offer 401(k) plans, either because the owners feel they can't commit to one or don't want the liability or administrative responsibilities of running one, according to Hausknost.
The new law enables them to join with other small businesses in their communities or industries in a large, pooled plan, which also might enable them to offer their employees more investment options.
The IRS has yet to clarify certain details surrounding the new law, including defining what constitutes a "small" business, Hausknost noted.
The law also protects employers from legal liability if they offer annuities as investment options inside their 401(k) plans and the annuity provider later goes out of business or stops making payments.
Employer plans typically haven't included annuities because business owners worried about such legal liability, said Hausknost. This "safe harbor" protection will make it easier to offer the annuity option.
While annuities have attracted some criticism, they are preferred by many people who want to lock in a known monthly payment in retirement, she noted.
Graduate and doctoral students who receive stipends or similar payments in lieu of salaries can now count them as earned income, which means they are eligible to be considered when calculating IRA contributions.
The law also offers another important education-related benefit. Individuals will be able to withdraw up to $10,000 from a 529 college savings plan to pay down qualified student loan debt, either for the account beneficiary or a sibling. The $10,000 limit applies to each sibling, so a family with four indebted students could use $40,000 from 529 plans to repay loans.
Another option for relatively young workers: New parents now will be able to withdraw up to $5,000 ($10,000 for a married couple) from qualified retirement accounts penalty-free within a year of a child's birth or adoption (not counting adoption of a spouse's child). While there will be no penalty for withdrawing the funds, they may be taxable as ordinary income, Hausknost noted.
Plan sponsors now must provide more information to employees about how long their savings may last them in retirement, via an annual lifetime income disclosure statement. This is similar to information the government sends to workers about their potential Social Security payments.
Instead of simply giving workers their retirement-savings balance every year, employers must give them an estimated monthly benefit at retirement, based on their balance and contributions.
To learn more about how the SECURE Act affects you, your business and your family, check with your tax professional and contact your City National banker or wealth planner for more information.
This article is for general information and education only. It is provided as a courtesy to the clients and friends of City National Bank (City National). City National does not warrant that it is accurate or complete. Opinions expressed and estimates or projections given are those of the authors or persons quoted as of the date of the article with no obligation to update or notify of inaccuracy or change. This article may not be reproduced, distributed or further published by any person without the written consent of City National. Please cite source when quoting.
City National, as a matter of policy, does not give tax, accounting, regulatory or legal advice. Rules in the areas of law, tax, and accounting are subject to change and open to varying interpretations. You should consult with your other advisors on the tax, accounting and legal implications of actions you may take based on any strategies presented, taking into account your own particular circumstances.