With so much happening in Washington D.C. as 2019 draws to a close, we want to draw your attention to a news item of significance to all of us. Among the provisions contained in Congress’s year-end appropriations bill is the SECURE Act – short for “Setting Every Community Up for Retirement Enhancement” – which will impact taxpayers’ retirement planning and for some taxpayers, increase tax liability.
The Act makes several important changes to the rules for retirement savings and employer retirement contributions, as well as changing the kiddie tax rules. The changes were approved in a stand-alone bill in the House in May but remained stalled in the Senate ever since. The Senate is expected to pass, and President Trump is expected to sign, the appropriations bill, meaning that the SECURE will be enacted. The changes generally apply to tax years beginning after 2019.
Contributions and Distributions
The most significant change made by the SECURE Act is to replace the 5-year rule for requirement minimum distributions (RMD) from qualified retirement plans and IRAs made to non-spouse beneficiaries with a 10-year window. The 10-year period applies regardless of whether the plan participant or IRA owner dies before or after reaching the required beginning date (RBD). Thus, the change will severely limit, if not eliminate, the use of so-called “stretch IRAs” as an effective planning tool. Limited exceptions are available. The change is effective for distributions made with respect to plan participants and IRA owners who die after December 31, 2019.
The RMD beginning date for employer plans and for IRAs is moved from the year the owner reaches age 70½ to the year the owner reaches age 72. The new law also provides an exception to the 10-percent early withdrawal tax from qualified plans in the case of the birth or adoption of a child. Qualified birth or adoption distributions may be recontributed to an individual’s applicable eligible retirement plans, subject to certain requirements.
The maximum age limitation of 70½ for making deductible traditional IRA contributions is eliminated, allowing individuals to continue employment beyond more traditional retirement age. Compensation for purposes of determining an individual’s eligibility to make IRA contributions is expanded to include stipends and non-tuition fellowship payments received by graduate and postdoctoral students.
Under the new law, employers with 401(k) plans must offer employees who work between 500 and 1000 hours year an additional means to participate in the plan. Employees must be able to satisfy participation requirements by completing either:
- a one year of service requirement (with the 1,000-hour rule); or
- three consecutive years of service where the employee completes at least 500 hours of service.
This rule change would only affect 401(k) cash or deferral arrangements.
Changes are also made to safe harbors for contributions to 401(k) plans. The law would raise the deferral amount for the automatic enrollment safe harbor from 10 percent of compensation to 15 percent. It also eliminates the notice requirement for the three percent non-elective contribution safe harbor and allow plan amendments at any time before the 30th day before the close of the plan year. Amendments after that time are allowed under certain circumstances.
Retirement Plans for Small Employers
Several changes are made to make it easier for smaller employers to offer retirement plans to their employees. The employer credit for qualified small employer pension plan start-up costs is increased to the greater of $500 or the lesser of 1) $250 multiplied by the number of non-highly compensated employees eligible to participate in the plan; or 2) $5,000. In addition, a new $500 credit is allowed per year to an eligible employer for three consecutive years if it adds an automatic enrollment feature to a qualified employer plan.
A new class of Multiple Employer Plan (MEP) service provider will be able to create and offer pooled MEPs called pooled employer plans. These consist of individual account plans providing benefits to the employees of two or more employers. They can be either a qualified plan (such as a 401(k)) or an IRA-based plan. A pooled plan provider is a person who is designated by the terms of the plan as a named fiduciary, as the plan administrator, and as the person responsible to perform all administrative duties (including conducting proper testing with respect to the plan and the employees of each employer in the plan) which are reasonably necessary for the plan.
Additional Retirement Plan Changes
Additional amendments require retirement plans to:
- allow direct trustee-to-trustee transfers of lifetime income investments or distributions of a lifetime income investment in the form of a qualified plan distribution annuity;
- prohibit the use of credit cards or similar arrangements to draw down on plan loans so that plan loans are not used for routine or small purchases;
- include an annual disclosure requirement for benefit statements provided to defined contribution plan participants;
- provide a safe harbor for plan sponsors in the selection of an annuity provider; and
- comply with new rules for the adoption of a qualified plan after the tax year and prior to filing a return.
Kiddie Tax Changes
A child’s unearned income is generally subject to the so-called “kiddie tax.” The Tax Cuts and Jobs Act (TJCA) amended the rules to make it easier to calculate kiddie tax beginning in 2018. However, an unintended consequence was to create higher tax liabilities for low- and middle-income families who received certain benefits that are considered unearned income.
The new law would repeal this change. A child’s net unearned income will return to being taxed at the parents’ tax rate if higher than the tax rate of the child. Thus, the kiddie tax will be calculated by computing the child’s share of the “allocable parental tax” which is affected not only by the tax situation of the child’s parents, but also the unearned income of any siblings. The change applies to tax years beginning after 2019, but taxpayer may elect to apply the change to tax years 2018 and 2019.
If you have any questions regarding the SECURE ACT or any other tax matters, please do not hesitate to contact our tax department.