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Opinion: Beware: Congress honing in on IRA changes

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In May, the House of Representatives passed a bill that could drastically change the rules of retirement. It is referred to as the Setting Every Community Up for Retirement Enhancement Act of 2019, aka SECURE. These sweeping changes affect traditional IRAs, 401(k) plans, inherited IRAs, required minimum distributions, college savings plans and student loans. It also filters into many other aspects of personal financial planning.

The bill passed the House by a 417-3 margin. It’s been in the Senate since June. If enacted, this legislation will mark another substantial reform that will affect the wallets of all American families.

Here is a preview of what’s likely to come and some planning tips:

• Required minimum distributions. The bill proposes raising the age of mandatory required minimum distributions to 72 from 70 and a half. The age for RMDs was first enacted in the 1960s and has never been adjusted. This extra time would allow investment accounts, such as IRAs and 401(k)s, to grow tax-deferred for another year or two and potentially increase the longevity of retirement resources. However, the current lower personal income tax rates enacted by the Tax Cuts and Jobs Act of 2017 are scheduled to sunset in 2025. Therefore, it may be to your advantage to take required distributions at these lower tax rates in anticipation of a rate hike in 2026.

However, the legislation states the age increase for IRA owners only applies to those who reach age 70 and a half after Jan. 1, 2020. So, if you turn that age before then, you will not be eligible to delay your required minimum distributions.

• Repeal of the IRA contribution age limit. In order to make a traditional IRA contribution, an individual must have earned income and be under age 70 and a half. This legislation would repeal the age limit, leaving earned income as the only requirement for making a contribution.

To receive a tax deduction on IRA contributions, individuals must have earned income beneath certain thresholds if they are considered active in an employer plan. A spouse also could qualify for a contribution to their account based on the income of a working spouse. In essence, everyone would be eligible to make traditional IRA contributions so long as one spouse has earned income. However, the tax deductibility of that contribution depends on other factors.

It is important to note that RMDs will still likely be required each year on the amount of the contribution, just as it is now. However, the tax savings on the contribution amount could outweigh the taxes on the smaller amount required to be distributed.

• Inherited tax-deferred accounts. The “stretch IRA” has finally been stretched to its limits. Under current law, individuals who inherit retirement accounts have the ability to take distributions over their lifetime. If the original beneficiaries do not withdraw all of the funds over their lives, the second line of beneficiaries could “stretch” the same funds over theirs, and so on potentially lasting for generations. The new legislation puts an end to that. After Dec. 31, the first line of beneficiaries would be required to withdraw all of the funds within 10 calendar years. This applies to all beneficiaries other than the surviving spouse, disabled or chronically ill beneficiaries, minor children and individuals who are not more than 10 years younger than the account owner.

From a wealth transfer planning standpoint, you may want to carefully balance how much you place in tax-deferred investment accounts, taxable accounts and Roth accounts. This balance will help ensure that your wealth stays in the family in the most tax-efficient way.

• Employer retirement plans. There are sweeping changes to employer plans with this bill. Here are the highlights: Retirement plan statements would be required to provide a lifetime income illustration showing the amount of monthly income a participant could reasonably expect to receive based on current contributions.

Annuities would be an available vehicle for 401(k) plans. The idea here is to have this behave similarly to traditional pension plans that guaranteed a stream of lifetime income. However, the potentially higher costs, stability of the backing insurance company, potential liability of the employer and other fine print deserve a high degree of scrutiny prior to implementation.

Small businesses could band together to enroll in a single pension plan referred to as a pooled plan or multiple employer 401(k). This could lower the cost barrier for small businesses to offer the benefits of 401(k)s to their employees.

A new tax credit of up to $500 per year for three years helps offset the costs for small employers that offer an automatic enrollment plan with their 401(k) or SIMPLE IRA plan. Employees are more likely to participate in a retirement plan if they are automatically enrolled. Increased participation also could help reduce the cost of the overall plan as the overall balance grows.

Long-term, part-time employees would be eligible to contribute to a 401(k) plan. Generally, a 401(k) plan is available to those who have completed one year of service and have worked 1,000 hours. This new legislation would allow workers who have worked at least 500 hours in each of the last three consecutive years to contribute to a 401(k). The rationale is that parents raising children have been penalized for not being able to work 1,000 hours outside of the home.

To navigate the complexities of how Congress may have changed your retirement plans, visit with your credentialed financial planner and tax preparer to see what strategies you could put in place to best plan for the future.

Andy Drennen, certified financial planner, is a vice president and portfolio manager at Central Trust Co. He can be reached at andy.drennen@centraltrust.net.

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