A new tax bill has passed the House and is now being considered by the Senate. It enjoys bi-partisan support and will probably become law. Trying to be poetic, Congress has strained to come up with an acronym- the SECURE Act of 2019. This stands for Setting Every Community Up for Retirement Enhancement Act of 2019.
This bill changes retirement planning, especially the after-death deferral period, except for defined benefit plans.
The name of the game is deferral. The longer money is allowed to grow untaxed, the bigger the accumulation. And the longer the Treasury has to wait to get tax revenue.
Currently, and oversimplified, most business owners need to commence distributions from pension plans, profit sharing plans, and IRAs starting when they are age 70 ½. The new bill changes it to age 72. That’s the good part.
The bad part is deferral period after death. With five exceptions (discussed below) the new bill provides that accumulations in pension, profit sharing and IRAs, must be paid out in full within 10 years of the death of the participant or IRA owner. The old law was that most accumulations could be paid out over the life of the beneficiary.
For example, Robert has accumulated $2,000,000 in his IRA and dies at 75. As Robert’s spouse predeceased him, he leaves the entire amount to his only child, Dana, then age 30. Dana’s life expectancy is approximately 52 more years measured from the following year. She is required to take out approximately 1/52 of the accumulation in year 1, approximately 1/51 of the remaining accumulation in year 2, and so on. Most likely, it will be years before the distribution exceeds the growth. Until then, the pie keeps growing.
Under the new bill, Dana would have to take out all monies within 10 years. She would need to meet with a financial adviser to determine how quickly and how much to take out each year. It is a play between tax brackets and deferral. Doing a lump sum in 10 years when the accumulation could be in the $4,000,000 range, is probably not the optimum solution for her. Expect new programs to be created.
The first exception to the 10 year rule are spousal rollovers. In the new example, Robert is survived by his spouse who is age 66. She could treat the accumulation as her IRA and delay the start of the 10 year death rule until she dies.
The other exceptions to the 10 year rule are for beneficiaries (i) who are minors when the decedent dies, (ii) who are disabled, (iii) who are chronically ill, and (iv) who are no more than 10 years younger than the decedent. In the case of a minor beneficiary, as soon as he or she reaches the age of majority, the 10 year period begins.
One sophisticated solution is to make the beneficiary of the accumulation a self-created charitable remainder trust (“CRT”). At death, the accumulation is paid to the CRT free of tax. Then the CRT can be used to pay out either over a 20 year period or over the life of the beneficiaries. In theory, actuarially, 10 percent of the accumulation is to go to a charity at the end of the term, but because of low interest assumptions, it is probably significantly less. A small price to pay to get a much longer deferral.
Assuming the bill becomes law, anyone with a large or projected large (e.g., accumulation of $1,000,000 or more) should meet with their tax/estate planning attorney to revamp their strategy.