The SECURE Act Case Study: The Impact on Retirement Income & Estate PlanningSubmitted by Reby Advisors | Certified Financial Planners | Danbury, CT on January 30th, 2020
By Doug Kuring, CFP®, January 31, 2020
Over the past month, my colleagues have written extensively about the details of the SECURE Act that passed in December of 2019. In this final installment of the series, I plan to bring these concepts to life through a case study of how the new law affects "Sue" and the financial strategies we would recommend to someone in her position.
You can read the complete case study or skip to a section by clicking one of the four links below. The SECURE Act impacts Sue and her financial plan in the following ways:
- The SECURE Act's impact on Sue's required minimum distributions (RMD)
- How does the SECURE Act impact Sue’s gifts to her church and other charities?
- How does the SECURE Act impact Sue’s legacy (inheritance) to her 2 boys?
- How does the SECURE Act impact Sue’s accounting job and retirement savings plan?
Here's what you need to know about Sue:
- Age 70.5
- Married with two financially independent adult children
- Her birthday is July 1, 2020; therefore, she turned 70.5 in January of 2020.
- She used to work for IBM and officially retired in 2017 with a pension and a 401(k).
- She now maintains a part-time job at a local CPA's office to keep her mind active in semi-retirement.
- Sue donates to her local church and Ability Beyond Disability.
- Now that she has grandchildren, she wants to leave a financial legacy that would span multiple generations.
In Sue’s case, the first thing I’d be figuring out on her behalf is when Reby Advisors has to facilitate required minimum distributions (RMD). The question becomes, “Is Sue’s RMD age 72, or does it remain at age 70.5?“
Not the biggest headline of the SECURE Act – but a significant change nonetheless – the RMD age now begins at age 72, instead of age 70.5.
So how does this change impact Sue’s situation? It all comes down to when she turned 70.5. If she turned 70.5 on or after Jan 1st, 2020 – her RMD age would start at age 72. If she reached her 70.5 birthday on Dec 31, 2019 or earlier, she would still have to abide by the old rules.
Because Sue’s 70.5th birthday was on Jan 1st of 2020, the IRS does not force her to begin taking her RMD until age 72 (or June 1st of 2021). In fact, by IRS regulation, Sue doesn’t have to take her first RMD until April 1st of 2022.
Helping a worthy cause is the primary reason we donate to non-profit organizations, but we also want to make sure we get the tax deductions from those donations.
Here at Reby Advisors, we strongly encourage clients to consider gifting to charities in a specific way using their RMD through what’s known as a qualified charitable distribution (QCD). A QCD satisfies the RMD without adding the tax liability that comes with additional income.
Even though the RMD age has been increased to 72, a QCD can still be done at age 70.5. A maximum of $100,000 per year can be gifted to charity by way of a QCD.
Back to our case study, Sue can execute a QCD now, rather than waiting until her RMD age kicks in at age 72. This reduces her taxable income by the full amount she donated to charity. When she finally turns age 72, her RMD will be reduced by the amount she donates to charity through the QCD.
The most impactful provision in the SECURE Act was the elimination of the "stretch IRA strategy."
The stretch IRA enabled heirs to receive a greater lifetime inheritance and send a smaller percentage of it on a one-way trip to Washington D.C via taxes. How? When set up properly, the RMD from an inherited IRA account would be based on the life expectancy of the beneficiary. The smaller annual payments gave the account more time to compound and grow, and also minimized the potential that the distributions would push the beneficiary into a higher tax bracket.
The SECURE Act eliminates that option.
Now, a non-spouse beneficiary must liquidate and withdraw all funds from an inherited IRA within 10 years.
In Sue’s case, this is a big deal to her kids.
- The elimination of the stretch IRA will increase their taxable income within that 10 year window of receiving the inheritance. Remember, withdrawals from retirement accounts are considered earned income, and the taxes owed on withdrawals are based on ordinary income tax rates.
- The lifespan of her legacy will decrease. Many children inherit assets from their parents in their sixties, which gives them a solid 25-30 years left to use it and spread the taxes out. That lifespan is now significantly shortened.
- The higher taxes owed will decrease the total value of the legacy her boys receive. In her case, she should consider how taxes will impact the $250,000 legacy she wants to leave each child. My colleague Patrick Doherty wrote about a few sophisticated planning strategies to minimize the taxes owed on inheritances now that the stretch IRA is a thing of the past.
Before the SECURE Act, an individual could not contribute to a Traditional IRA or Roth IRA past age 70.5. Period. That was the cut-off and there were no rules around it.
Now, an individual with wages, salaries, or tips from employment—or net earnings, if self-employed—can contribute to a Roth IRA or Traditional IRA past age 70.5. In fact, as long as you have earned income, you can contribute to those types of accounts, regardless of age.
Remember, Social Security benefits (disability or regular) do not count as earned income.
In Sue’s case, being over age 50, she can contribute up to $7,000 to a Roth IRA (to get tax-free income later on in retirement) or a Traditional IRA, which would reduce her taxable income now.
Retirement Income Planning at Reby Advisors
Please do not hesitate to contact Reby Advisors if you need advice on how to generate tax-efficient income in retirement and remain on track to achieve your legacy goals.