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The Setting Every Community Up for Retirement Enhancement Act, also known as the "Secure Act" was signed into law in 2019. For those who are not aware, among other things, the Secure Act did the following:

1.      It raises the cap for auto enrollment contributions in employer retirement plans from 10% of pay to 15%.

2.      It allows individuals who are still working to contribute to traditional IRS's past age 70 .

3.      For individuals who turn 70 in the calendar year 2020, they can now begin taking Required Minimum Distributions at age 72.

4.      It allows part-time workers to participate in their company's 401(K) plans for employees who worked more than 1000 hours in one year, or 500 hours over 3 consecutive years.

5.      It allows 401(k) plans to offer annuities.

6.      It allows parents to withdraw up to $5000 from retirement plans penalty free within a year of the birth or adoption of a child for qualified expenses.

7.      Allows parents to withdraw up to $10,000 from 529 plans to repay student loans.

8.      Gives small businesses a tax credit of $500 per year for three years for starting a SEP, Simple IRA or qualified pan.

9.      It increased transparency regarding retirement income by requiring "lifetime income disclosure statements."

10.  It required non-spouses inheriting IRA's to take distributions over a period of ten (10) years, including Roth IRA's.

While most of the provisions of the Secure Act are beneficial and are intended to encourage an individual's access to employer created retirement plans, the provision requiring non-spouses to distribute inherited IRA's over a period of ten (10) years could have a substantial impact on estate plans consisting mostly of retirement benefits. It is common for estate planners who are dealing with estates consisting of mostly retirement plan assets to name a trust as the beneficiary of those assets in order to save income taxes by "stretching" the payments over time, which is typically the life expectancy of the owner of the plan, or the trust beneficiary.

In addition, a trust can provide some peace of mind by providing certain creditor protections that may be necessary or beneficial to your beneficiaries. With respect to estate planning, this is often accomplished by using a "conduit trust" or an "accumulation trust" to manage the distributions from certain high value retirement accounts. An accumulation trust allows the trustee to accumulate the required minimum distribution ("RMD") received by the trust and pay out trust income and/or principal at the trustee's discretion.

This allows the trustee to decide whether to make large or small payments to the beneficiary of the trust depending on the circumstances. However, an accumulation trust can have significantly higher income tax consequences because an irrevocable trust is taxed at the maximum tax rate of 37% for trust income over $12,500.00. On the other hand, an accumulation trust will allow the trustee to retain the retirement proceeds past the required 10-year payout for non-spousal IRA's mandated by the Secure Act. For this reason, the "accumulation trust" is a less common type of trust used in estate plans due to the potential for higher income taxes.

A conduit trust is a trust that requires the trustee to distribute all required IRA distributions (or the RMD received by the trust) to the trust beneficiaries. The trust merely acts as a "conduit" for the RMD's because they pass to the trustee and the trustee pays it out to the beneficiary before the end of the year. As long as all of the trust's income is paid out to the beneficiary, the income is taxed at the beneficiary's tax rate, rather than at the trust's tax rate. Under the Secure Act, conduit trusts can be problematic for the beneficiary because the trustee will have to pay out the IRA assets by the end of the 10-year period.

Thus, the beneficiary could be facing a substantial income tax each year if the IRA has significant value because the distribution of IRA assets can no longer be stretched out over the beneficiary's life expectancy. In addition, if you have an estate plan with a conduit trust that directs that payment of trust principal be made at certain ages; for example, one-third of the trust principal at age 30, one-half of the trust principal at age 40, and the balance of the trust principal at age 50, then your estate plan is no longer able to accomplish your intended goal of protecting those funds until the child attains certain ages.

Consequently, if you have designed your estate plan naming a trust as beneficiary of your retirement plan, you should consult with your estate planning attorney in order to review the plan and make sure it is not negatively impacted by the Secure Act.

Depending on your own situation, you may decide to convert your conduit trust to an accumulation trust giving the trustee more discretion to make distributions past the mandated 10-year payout. In addition, you may want to consider converting your traditional IRA to a Roth IRA, and pay some tax now in order to allow for 10 years of tax-free accumulation and distributions after your death.

Noteworthy:

While most of the provisions of the Secure Act are beneficial and are intended to encourage an individual's access to employer created retirement plans, the provision requiring non-spouses to distribute inherited IRA's over a period of ten (10) years could have a substantial impact on estate plans consisting mostly of retirement benefits. - Scott Grant

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For More Information:

Grant, Konvalinka & Harrison, P.C. is located at Republic Centre, Ninth Floor 633 Chestnut Street and can be reached at 423-756- 8400.

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