The SECURE Act has been called the most comprehensive, sweeping retirement security legislation in recent history, and is now the law. But does this act address the massive scale of millions of Americans that are unprepared for their retirement? Let's review seven provisions of The SECURE Act to determine how this act might affect you.
Listen to Episode 14 Here:
“There's never enough time to do all the nothing you want.”
That’s a great line from cartoonist Bill Watterson, the author of Calvin & Hobbes. Although I often speak of the importance of keeping your mind and body busy in retirement, it is always nice to have the option to do nothing, at least some of the time.
A bill entitled The Setting Every Community Up for Retirement Enhancement (SECURE) Act passed Congress last year, and yes, it pretty much seems they came up with the SECURE part first on that one and then made up the words to somewhat fit the acronym.
How comprehensive and sweeping is this act really? Does it simplify the process of saving for retirement? Let’s go over a few of the provisions, so you can decide for yourself.
7 Provisions of The SECURE Act
1) Change in IRA contribution age
The Act will allow people who are working beyond age 70 1/2 to make IRA contributions. But this same group of 70.5 plus can already keep contributing to Roth IRAs and 401(k) plans, so while nice, this probably won’t be a huge deal to most investors.
2) Change in required minimum distribution age
The SECURE Act delays the date when investors must start taking required minimum distributions (RMDs) out of their IRAs until age 72. This is nice but not a huge difference, since the previous start date for RMDs was age 70 1/2. So, we are being given an extra year and a half of compounding before we must take money out, whether we need it or not (and, of course, paying taxes on it).
3) Group 401(k) plans for small businesses
Under the Act, small businesses will find it easier to group together and offer a 401(k) or other plan together, rather than individually. This could potentially reduce the financial barrier to creating a retirement plan for employees.
Also, any business that sets up its first 401(k) plan will receive up to a $5,000 tax credit for doing so (which is up from the previous $500, so that is a nice change). The Bureau of Labor Statistics says that only about 55% of all civilian workers, full or part time, currently participate in a workplace retirement plan, so it would certainly be nice to see that number go higher!
We will have to see if this $5,000 incentive and the option to group plans together will help improve those numbers. I certainly hope so.
4) Accelerated 401(k) contributions
The SECURE Act allows employers to auto-escalate their employees’ 401(k) contributions up to 15% of their pay, up from 10% currently.
5) Withdrawals for birth or adoption
People will be able, under the new rules, to withdraw money from their retirement accounts to cover the cost of the birth or adoption of a child.
6) Annuities as investments
The SECURE Act creates a safe harbor for qualified plan sponsors to offer annuities as an investment vehicle. Now, all annuities are not created equally. Some, like single premium immediate annuities (or SPIAs) provide a guaranteed income for life and they can be a decent option.
There are other types of annuities that are mainly used as expensive investment vehicles and there is nothing in the provision that would prevent salespeople from selling high-commission annuities to the 401(k) market (this is where the insurance lobbying push to pass the SECURE Act came from in the first place), so everyone needs to pay special attention to what they are buying and always ask for transparency of fees and expenses!
In addition, every 12 months, plan sponsors will have to report the monthly income that their participants would receive if they put the balance of their plan assets into an annuity. This, of course, will be a nice sales gimmick for annuity salespeople, but once again, participants should be careful. If you lock up your money in an annuity, the guaranteed income for life comes at the cost of flexibility. You would not be able to take out $5,000 to repair your roof, pay medical bills or have access to the cash in an emergency. You would have zero liquidity, and this can be a big problem for most of us.
7) New rules for inherited IRAs
The SECURE Act will also change the rules for people who inherit an IRA or other retirement vehicle. Previously, inheritors were prohibited from allowing the assets to grow tax-free forever; instead, they had to take RMDs based on their age. Younger people would have lower RMDs than older inheritors, and the percentage that had to be taken out would go up incrementally each year. This was known as the “stretch” IRA, because people could “stretch” out the distributions over their lifetime and enjoy tax-free compounding of the money they were not required to take out.
However, under the SECURE Act, inherited IRAs must be distributed, in full, by the end of the tenth year after it is received—and all ordinary income taxes would be due at the time of the distribution. This provision will require some planning for people who have larger IRAs, because their heirs will often be required to take out the full amount during their peak earning years. And inheritors of IRAs should think twice about waiting to the last minute to take the full distribution. Yes, waiting would increase the time that the assets would be compounding tax-free, but when all the money comes out at once, it could bump the recipient into a higher tax bracket.
As a result, many tax practitioners are recommending that wealthier individuals look at the possibility of doing partial Roth conversions while they’re still alive, moving some of the traditional IRA assets into Roth IRAs and paying taxes at today’s low rates. For the person inheriting a Roth IRA, all distributions are tax-free; therefore, this act again reinforces the use and value of Roth conversions, which is a tool all of my current clients know I am a fan of!
Bottom line: Are these provisions likely to move the needle on America’s retirement crisis?
While there are some nice new changes that push the RMD age back a bit and allow small businesses to possibly reduce expenses on retirement plans, adding high-fee annuities to retirement plans probably isn’t in the best interest of most Americans. But it will benefit the large insurance companies that lobbied for this act.
Be careful that you aren’t the one paying these often-unjustifiable high fees!
Shout out to Bob Veres for synthesizing some of the information I just went over.
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