New Law May Affect Your Tax and Retirement Planning

The SECURE Act (Setting Every Community Up for Retirement Enhancement Act) was signed into law in December 2019.  This landmark legislation may affect how you plan for your retirement. Many provisions of this law go into effect in 2020, which means now may be the time to consider how these new rules may affect your tax and retirement-planning situation.

For more information on any of these topics please call our office at 518.636.5166 or email Rick.

Below are some provisions that may affect you:

Repeal of the maximum age for traditional IRA contributions

Before 2020, traditional IRA contributions were not allowed once the individual attained age 70 1/2. Starting in 2020, the new rules allow an individual of any age to make contributions to a traditional IRA, as long as the individual has compensation, which generally means earned income from wages or self-employment.

Required minimum distribution age raised from 70 1/2 to 72

Before 2020, retirement plan participants and IRA owners were generally required to begin taking required minimum distributions, or RMDs, from their plan by April 1 of the year following the year they reached age 70/12. The age 70 1/2 requirement was first applied in the retirement plan context in the early 1960s and, until recently, had not been adjusted to account for increased in life expectancy.

For distributions required to be made after December 31, 2019, for individuals who attain age 70 1/2 after that date, the age at which individuals must begin taking distributions from their retirement plan or IRA is increased from 70 1/2 to 72.

Partial elimination of stretch IRAs

For deaths of plan participants or IRA owners occurring before 2020, beneficiaries (both spousal and nonspousal) were generally allowed to stretch out the tax-deferral advantages of the plan or IRA by taking distributions over the beneficiary’s life or life expectancy (in the IRA context, this is sometimes referred to as a “stretch IRA”).

However, for deaths of plan participants or IRA owners beginning in 2020 (later for some participants in collectively bargained plans and governmental plans), distributions to most nonspouse beneficiaries are generally required to be distributed within ten years following the plan participant’s or IRA owner’s death. So, for those beneficiaries, the “stretching” strategy is no longer allowed.

Exceptions to the 10-year rule are allowed for distributions to:

  • the surviving spouse of the plan participant or IRA owner
  • the child of the plan participant or IRA owner who has not reached majority
  • a chronically ill individual
  • any other individual who is not more than ten years younger than the plan participant or IRA owner

Those beneficiaries who qualify under this exception may generally still take their distributions over their life expectancy (as allowed under the rules in effect for deaths occurring before 2020).

Expansion of Section 529 education savings plans to cover registered apprenticeships and distribution to repay certain student loans.

A Section 529 education savings plan (a 529 plan, also known as a qualified tuition program) is a tax-exempt program established and maintained by a state, or one or more eligible educations institutions (public of private). Any person can make nondeductible cash contributions to a 529 plan on behalf of a designated beneficiary. The earnings on the contributions accumulate tax-free. Distributions from a 529 plan are excludable up to the amount of the designated beneficiary’s qualified higher education expenses.

Before 2019, qualifies higher education expenses didn’t include the expenses of registered apprenticeships or student loan repayments.

But for distributions made after December 31,2018 (the effective date is retroactive), tax-free distributions from 529 plans can be used to pay for fees, books, supplies, and equipment required for the beneficiary’s participation in an apprenticeship program. In addition, tax-free distributions (up to $10,000) are allowed to pay the principal or interest on a qualified education loan of the designated beneficiary, or a sibling of the designated beneficiary.

Kiddie tax changes for Gold Star children and others

In 2017, Congress passed the Tax Cuts and Jobs Act (TCJA, P.L.115-97) which made changes to the so-called “kiddie tax” which is tax on the unearned income of certain children. Before enactment of the TCJA, the net unearned income of a child was taxed at the parents’ tax rates if the parents’ tax rates were higher than the tax rates of the child.

Under the TCJA, for tax year beginning after December 21, 2017, the taxable income of a child attributable to net unearned income is taxed according to the brackets applicable to trusts and estates. Children to whom the kiddie tax rules apply and who have net unearned income also have a reduced exemption amount under the alternative minimum tax (AMT) rules.

These had been concern that the TCJA changes unfairly increased tax on certain children, including those receiving government payments (i.e. unearned income) because they were survivors of deceased military personnel (“Gold Star children”), first responders and emergency medical workers.

The new rules enacted on December 20, 2019, repeal the kiddie tax measure that were added by the TCJA. So, starting in 2020 (with the option to start retroactively in 2018 and/or 2019), the unearned income of children is taxed under the pre-TCJA rules, and not at trust/estate rates.

And starting retroactively in 2018, the new rules also eliminate the reduced AMT exemption amount for children to whom the kiddie tax rules apply and who have net unearned income.

Penalty-free retirement plan withdrawals for expenses related to the birth or adoption of a child

Generally, a distribution from a retirement plan must be included in income. And, unless an exception applies (for example, distribution in case of financial hardship), a distribution before the age of 59 1/2 is subject to a 10% early withdrawal penalty on the amount of includible income.

Starting in 2020, plan distributions (up to $5,000) that are used to pay for expenses related to the birth or adoption of a child are penalty-free. That $5,000 amount applies on an individual basis, so for a married couple, each spouse may receive a penalty-free distribution up to $5,000 for qualified birth or adoption.

Taxable non-tuition fellowship and stipend payments are treated as compensation for IRA purposes

Before 2020, stipends and non-tuition fellowship payments received by graduate and postdoctoral students were not treated as compensation for IRA contribution purposes, and so could not be used as the basis for making IRA contributions.

Starting in 2020, the new rules remove that obstacle by permitting taxable non-tuition fellowship and stipend payments to be treated as compensation for IRA contribution purposes. This change will enable these students to begin saving for retirement without delay.

Tax-exempt difficulty-of-care payment are treated as compensation for determining retirement contribution limits

Many home healthcare workers do not have taxable income because their only compensation come from “difficulty-of-care” payments that are exempt from taxation. Because those workers do not have taxable income, they are not able to save for retirement in a qualified retirement plan or IRA.

Starting in 2020 for contributions made to IRAs (and retroactively starting in 2016 for contributions made to certain qualified retirement plans), the new rules allow home healthcare workers to contribute to a retirement plan or IRA by providing that tax-exempt difficulty-of-care payments are treated as compensation for purposes of calculating the contribution limits to certain qualified plans and IRAs.