In 2019, the SECURE (Setting Every Community Up for Retirement Enhancement) Act changed the retirement planning landscape. Late last year, follow-up legislation, the SECURE Act 2.0, was signed into law. This article will review how some of the most significant changes might impact you.
More Retirement Planning Flexibility with Delayed RMDs
One area of focus continues to be Required Minimum Distributions. These distributions, usually referred to as “RMDs,” are withdrawals you must take every year from retirement accounts starting at a specific age. These apply to most every retirement account including 401(k) plans, 403(b) plans and IRAs.
These distributions can create problems for retirees since they can increase your taxable income. They might push you into a higher tax bracket, creating a bigger tax bill. Also, that extra income might increase your Medicare premiums down the road.
The original SECURE Act delayed RMDs by almost two years. The new SECURE 2.0 increases the required minimum distribution age even more so you can start taking them later if you haven’t started yet. This can provide more flexibility and control over your tax bill.
Here are the timing changes under the most recent law change:
If you turn 73 between 2023 and 2032, you’ll be required to start RMDs at age 73.
If you turn 73 in 2033 or later, you’ll be required to start RMDs at age 75.
One note: usually, with these large legislation packages, some issues may be identified that require future clarification. There is some confusion on this issue involving the impact of your birth year, and we expect technical clarification in the near future.
Lower Penalties for Missing RMDs
Another welcome change is the normalization of penalties for missing a required minimum distribution. Previously, if you made a mistake, you were subject to a harsh 50% penalty.
Starting in 2023, this has been reduced to a more reasonable 25%.
But there’s another option. If you miss and fix it during a “correction window,” the penalty is reduced to 10%. The correction window begins on the day the tax was imposed and ends at the earliest of the following:
• When the Notice of Deficiency is mailed to the taxpayer.
• When the tax is assessed by the IRS.
• The last day of the second tax year after the tax is imposed.
This makes the entire situation less painful if you forget to take an RMD. Of course, tax planning and reviews are better ways to avoid these issues altogether, while also looking for strategies to minimize what you owe.
Increased Catch-Up Contributions for Those Approaching Retirement
Catch-up contributions allow those age 50 or older to contribute more to most retirement accounts. These have been around for many years. However, most people could use more opportunities to save as they approach retirement. Fortunately, SECURE Act 2.0 offers that by adding a more significant catch-up contribution limit for four years once you hit age 60.
Beginning in 2025, you can contribute $10,000 or 150% of the standard catch-up contribution, whichever is greater, to workplace retirement plans when you are aged 60 to 63. This can allow a bigger boost to your retirement savings.
Please note this doesn’t apply if you have a SIMPLE IRA at work.
In addition, that $10,000 mark will be adjusted for inflation starting in 2026.
Some other changes for catch-up contributions:
• If you have a SIMPLE IRA through your employer, the age 60 to 63 catch-up will be different. For these accounts, it will be $5,000 or 150% of the standard catch-up contribution, whichever is greater.
• Beginning in 2024, the standard $1,000 catch-up IRA contributions will be indexed annually for inflation. This is another widespread change that, while not significant in any year, will allow you to accumulate more over time.
High Earners Required to Use Roth for Catch Up Contributions
If you earn more than $145,000 per year from your job, some other catch-up contribution changes will impact you. Beginning in 2023, if your wages are above this level for the previous year, catch-up contributions for must be made after tax, as a Roth option. That applies to all retirement accounts except the SIMPLE IRA.
Then, starting in 2025, that income point will be increased for inflation (rounded down to the lowest multiple of $5,000).
It’s interesting to note that this regulation only applies per employer. So if your income was over $145,000 total but came from more than one source, you may not be impacted. Or if you change jobs during the year, only your wages from each employer would be considered.
Simple and SEP Retirement Accounts Will Soon Allow Roth Contributions
SIMPLE and SEP IRAs previously did not allow for Roth contributions. Fortunately, the SECURE Act 2.0 is changing that.
If you have one of these accounts at work, the Act now authorizes your employer to allow Roth options. However, there are still some unknowns on the implementation of this provision:
• Custodians will need time to prepare all the systems and documentation to be ready to provide the option, which will take time.
• Employers would then need to authorize it and set up the option.
• Employers may have the option to make Roth optional or mandatory.
This is technically effective now, but the speed at which the benefit will be made available will be based on all these factors. So we really don’t know how quickly this will play out in reality and we don’t know how many employers will adopt it.
If you do make the switch the Roth contributions, those amounts would be included in your taxable gross income.
More Flexibility for 529 College Savings Plans
The 529 Plan has long been a solid option for college savings. But one drawback common to this plan was that any leftover money was difficult to use.
All that changed with SECURE Act 2.0. Anything that is not spent on education can now go toward the beneficiary’s retirement in the form of a Roth IRA. This makes this humble savings plan all the more worthwhile.
However, it’s not necessarily that simple. There are many regulations, and I’m sure we’ll see some clean-up legislation to deal with many loose ends that may get confusing in implementation.
Here are the general rules:
• The 529 plan must be at least 15 years old to qualify.
• Unused funds can be rolled directly into a Roth IRA.
• 529 plan contributions made within the last 5 years, as well as earnings on those contributions, are ineligible to move to a Roth IRA.
• The beneficiary must be the same for the Roth IRA as the 529 plan.
• Rollovers are classified as Roth IRA contributions, so annual IRA contribution limits apply.
• Because these are tied to IRA contributions, the beneficiary must have compensation in at least an amount equal to the amount being rolled over.
• A $35,000 lifetime maximum limit applies per beneficiary for these 529 to Roth IRA rollovers.
Because of these complicating factors, families may end up gradually rolling over the funds in chunks.
Also, the 529 plan gives you the ability to change the beneficiary. However, the SECURE Act 2.0 doesn’t address this issue.
Finally, with a 15-year limit, it may be advisable for families to establish a 529 plan early on with a small balance to start the clock.
Other Provisions Included in the SECURE Act 2.0
In this article, we’ve only looked at a handful of changes. There’s plenty of other provisions beyond these in this catch up for retirement enhancement SECURE Act list. Here’s a quick, general summary of some other areas impacted:
• Part-time workers will become eligible to participate in employer retirement plans.
• Automatic enrollment will become mandatory for new workplace retirement plans starting in 2025.
• Employers will be allowed to offer matching contributions to employees when they make payments on their student loan debt.
• Removed limits on qualified longevity annuity contracts (QLACs) held in your retirement accounts and increases the allowable amount to $200,000 (which is indexed to inflation).
These are just a small sample of the provisions set out in the SECURE Act 2.0. The good news is that it will help most everyone save for retirement. But because of these sweeping changes, tax planning is more important than ever. That’s why at Lohr & Company, we meet with clients for dedicated tax planning meetings to discuss how you can make the most of these law changes. Of course, also consult your tax professional for specific tax advice.