How can you argue with an act of Congress named “Setting Every Community Up for Retirement Enhancement” (SECURE)? Who wouldn’t want an enhanced retirement?
The SECURE act, which recently passed the House of Representatives with a vote of 417-3, is now being debated in the Senate. And at first glance, it looks great. If passed, Americans over the age of 70 ½ would still be able to contribute to traditional IRAs. And the dreaded required minimum distributions (RMD) wouldn’t start until age 72.
With Americans living and working longer, these are solid, if not exactly revolutionary, enhancements.
There’s just one big problem with it. In my opinion, the SECURE Act, if passed by the Senate and signed by President Trump, would turn the world of inheritance and estate planning upside down.
Today, you can leave your traditional IRA to your spouse with no tax consequences. Your IRA simply becomes their IRA upon your death, and they’re then required to take RMDs based on their own life expectancy. And the IRA could then be passed on your children upon the death of your spouse, with the RMDs then based on their life expectancy.
Depending on how long your heirs and their heirs live, your original IRA can potentially be stretched out forever, indefinitely deferring the taxes on the accumulated gains.
Well, all of that might now be changing. Under the new rules, non-spouse inherited IRAs would have to be distributed within 10 years of the death of the original account owner.
Now, before this starts to sound like a scare piece, the IRS isn’t “coming after your IRA” to seize it. At least not yet. But there are some things to keep in mind.
To start, the IRS will be getting more of your money and sooner. By forcing you or your heirs to distribute your IRAs sooner, your gains become taxable sooner. Ultimately, this means that your nest egg will grow slower or deplete faster.
Of course, money taken as an IRA distribution doesn’t just disappear. Once you pay the taxes on it, you’re free to reinvest it in a regular, good-old-fashioned brokerage account. It’s still able to grow and compound. It just loses the tax advantages of an IRA.
But I don’t like Congress moving the goal post on us. If they shorten the distribution timeline, they are setting a precedent for making IRAs less advantageous. That’s a remarkably short sighted move. In trying to get your money a couple years earlier, they are disincentivizing people to save for retirement.
Given that the average American has nowhere near enough money saved to last them through their golden years, that’s just about the last thing our government should be doing.
So, with all of this as a backdrop, will IRAs still make sense under the new rules?
The changes impact your heirs. I hate that my kids or future grandkids would have to pay more in taxes. But this doesn’t affect me. I still pay less in taxes today with every dollar I shelter in my 401(k) and other retirement plans, and the nest egg I need to support myself in retirement will grow a lot more quickly.
And while we’re on that subject, we’re now well into the second half of the year, but there is still plenty of time to increase your contributions to your retirement plan. You can put $19,000 into your 401(k) plan this year, not including company matching, and $25,000 if you’re 50 or older.
If you’re not on track to hit those limits, try to increase your savings rate, even if it’s just a couple hundred dollars per month. Every dollar you contribute lowers your tax bill and gets you one step closer to leaving the rat race in style.
DISCLOSURE: This article has been prepared for informational purposes only and is not intended to provide and should not be relied on for tax or accounting advice. Interactive Advisors is not qualified to and cannot provide any tax advice or prepare any tax documents for clients. Readers should consult their own accountant or tax attorney to determine the implications of the developments discussed in this article.