IRS clarifies rule changes for retirement assets

In late December 2019, Congress passed legislation that significantly changed how retirement accounts, including IRAs, are handled.  On February 23, the Internal Revenue Service issued proposed regulations interpreting that legislation, commonly known as the SECURE Act. The proposed regulations clarify a number of questions around the SECURE Act.

How did the SECURE Act impact planning around your retirement assets?

Congress expressed that it intended that retirement plans fund retirement, and not build an estate for heirs. As a result, the Act was a significant tax increase.  This should not come as a surprise, because most legislation has that effect.

The Act did make some changes that reflected Congress’s intent. It increased the age at which you must begin taking withdrawals from your retirement account.  Previously you were required to begin taking withdrawals in the year in which you turn age 70 ½.  Now, you do not have to begin taking distributions until the year in which you turn age 72. 

The Act also allows you to continue to make contributions to your retirement account regardless of your age.  This is a nice benefit if you are delaying retirement because you can now continue to contribute as long as you have earned income.

The most significant change under the Act involved how your retirement accounts are handled after your death.  Except for a surviving spouse (and a few “eligible designated beneficiaries” which include very special circumstances) your retirement plan beneficiaries will no longer be able to “stretch out” the inherited IRA over the beneficiary’s own life expectancy.

For most beneficiaries, other than the surviving spouse, continued income tax deferral after your death cannot exceed a 10 year period. The beneficiary must withdraw the entire retirement account balance and take it into their taxable income within 10 years of the date of your death.  The beneficiary may take some or all of it at any time, as long as it is all withdrawn by the deadline.

The proposed regulations clarified questions around naming your minor child as a beneficiary of your retirement accounts. If you name your minor child as beneficiary, the child will be required to take required minimum distributions from the account based on their own life expectancy until they reach age 21. Once they reach age 21, annual minimum distributions will no longer be required. However, the balance must be withdrawn within 10 years, or prior to their 31st birthday.  The beneficiary may take some or all of it at any time, as long as it is all withdrawn by the deadline.

Remember, you should NEVER name your minor child as a direct beneficiary of your retirement account (or any other asset). Your minor children do not have the capacity to own assets. Doing so will require significant and expensive court involvement for each of your minor children after your death. If you have minor children, you need to take steps to appropriately design a trust for those children, and then designate the trust as the beneficiary.  Properly designed, the trust will allow the child to qualify for the deferral up to age 31.

The minor child rules only apply to your minor child, therefore the general 10 year rule would apply to any other minor (or trust for another minor), such as a grandchild.

The regulations also confirmed many practitioners understanding of the new law that you can name a trust which provides protections for your spouse, or other beneficiaries, and still accomplish effective continued income tax deferral within the new parameters. Many advisers, articles, and blog posts, communicated a lot of bad advice around what you should, or shouldn’t do as a result of the SECURE Act changes. 

Much of that advice erroneously convinced people that they should not name a trust as a beneficiary of their retirement accounts. They should have directed you to review the trusts you named as beneficiaries of your retirement accounts to determine if a change of your beneficiaries is warranted.

Unfortunately, because of the complexities of the issues, many advisers and organizations simply told their customers that naming a trust would cause adverse tax consequences. That advice was simply not true, and the proposed regulations reinforce that trust planning can be an effective mechanism to protect your family, and not cause additional taxation. In fact, in some circumstances, a properly designed trust can reduce taxation of retirement accounts. You should consult professional legal counsel before making changes to retirement beneficiaries, particularly if you have quality trust planning in place.

If your goal is to have your unused retirement assets continue tax-deferred for as long as legally possible, and provide effective protections for your family members and beneficiaries, trust remain an effective tool for accomplishing these objectives. 

Dolan, an attorney, helps farm and ranch families achieve comprehensive estate, succession and legacy planning objectives.  Dolan is the principal of Dolan & Associates, P.C. in Brighton and Westminster, Colo.  Learn more on his website:  www.EstatePlansThatWork.com

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