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Your IRA May Have a Shorter Lifetime Than You Thought

| January 22, 2020
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Late in 2019, the "Setting Every Community Up for Retirement Enhancement Act," ("SECURE Act") became law. As with much of what comes out of Washington, how you view what our government did may depend on how it affects you. Investec clients and others potentially impacted by the legislation should start becoming aware of key provisions of the bill. We encourage you to talk with your Investec Wealth advisor about potential next steps in light of the details of the bill. We will address in more detail the implications of the legislation in future blogs. Let's take an initial pass at three broad categories of individuals potentially affected by the SECURE Act.

1) Were you planning to leave a large IRA to your children or grandchildren?

Previously, non-spousal heirs generally were allowed to take required distributions from inherited IRAs over their lifetimes. This meant, for example, that a forty or fifty year old son or daughter who inherited a parent's IRA might be able to "stretch" distributions from the IRA over a several-decades horizon, enjoying tax-deferred earnings over what remained in the IRA for perhaps forty or fifty years. Young grandchildren might have an even longer period in which to let much of the IRA grow tax-deferred.

The SECURE Act has largely eliminated the ability of such beneficiaries to stretch distributions, requiring instead that the assets inside an inherited IRA be distributed completely no later than 10 years after the death of the original IRA owner. Instead of being able to spread out taxation of the inherited IRA balance over one's remaining lifetime, those who inherit IRAs beginning in 2020 will now need to consider taking distribution over no more than ten years, accelerating taxation versus prior law. Distributions are not required until the 10th year. 

Some trusts are designed to pass to IRA beneficiaries only required minimum distributions. Because there are no required distributions under the SECURE Act until 10 years following the death of the owner, such trusts, unless modified, may find that the entire IRA account balance can only be distributed in the 10th year following the death of the account owner, with the attendant tax cost of large distribution.

The degree to which the elimination of the "stretch" IRA for most beneficiaries is a problem depends on a number of factors, including the account balance, number of heirs, tax rate of the heirs at the time of the inheritance, and whether a trust was established to help control spending of the inherited IRA by the heir(s). There are some exceptions for certain beneficiaries (e.g., those who are within 10 years of age of the deceased account owner or disabled beneficiaries), but generally, non-spousal beneficiaries must plan on taking distribution within ten years of the owner's death.

2) Will you reach age 70-1/2 in 2020 or later?

Prior regulations required that owners of IRAs begin taking "Required Minimum Distributions" (RMDs) no later than April 1st of the year following the year in which the owner turned 70-1/2. So, for example, if you turned 70 in April of 2019, you would have turned 70-1/2 in October of 2019, and would have to begin taking RMDs no later than April 1, 2020.

The SECURE Act changes the age at which RMDs must begin from 70-1/2 to 72. This is a fairly minor change, but if you're not at all anxious to start taking RMDs, this provision gives you an additional year and a half or two before RMDs must begin. Anyone who turned 70-1/2 in 2019 must still begin taking RMDs no later than April 1, 2020. Individuals who turn 70-1/2 in 2020 or later will not have to start taking RMDs until April 1st of the year following that in which they turn 72. (This can be summarized by saying that if you are an IRA owner who was born after June 30, 1949, you can delay taking RMDs until you turn 72.)

3) Are you working past age 70-1/2 (or planning to do so) and want to make a contribution to a Traditional IRA?

Prior law prohibited individuals from making a contribution to his or her IRA beginning in the year the individual turned 70-1/2. Beginning in 2020, the SECURE Act permits individuals of any age to contribute to a Traditional IRA, provided they have earned income from wages or self-employment.

There are many more details in the SECURE Act dealing with exceptions to the 10% early withdrawal penalty for IRAs, provisions regarding 401(k) plans, especially among small businesses, and some changes to the tax code regarding the so-called Kiddie Tax. A companion bill also reverted the Adjusted Gross Income "hurdle rate" that must be exceeded to deduct qualified medical expenses to 7.5% for 2019 and 2020, down from the previous rate of 10% of AGI that applied in 2017. We don't have the space here, and we suspect readers may not have the interest or patience, to go through all provisions of the bill. Your Investec Wealth Advisor can discuss further details with you, as applicable.

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Disclaimer: The summary provided here is general and intended as educational in nature. It is not intended nor should it be considered tax, accounting, or legal advice. Investec Wealth Strategies and its advisors do not provide tax, accounting or legal advice. We recommend you seek the counsel of your attorney, accountant or other qualified tax advisor concerning your situation.

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