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Retirement and Estate Planning Opportunities after the SECURE Act

Have a big IRA or a trust? Your strategies for limiting the tax burdens on your beneficiaries may have just changed ... a LOT.

If you haven’t learned by now, the Setting Every Community Up for Retirement Enhancement Act (known as the “SECURE Act”) was signed into law on Dec. 20, 2019, and went into effect on Jan. 1, 2020. With bipartisan support, it is expected to generate about $15.7 billion in tax revenue over the next decade on the changes to the “Stretch” IRA and $16.4 billion overall, according to the Congressional Research Service.

This means that previous advice your attorney, accountant and financial adviser gave you is most likely outdated — or incorrect — and a revision will be needed. Those with IRA trusts will need to plan as soon as possible before the unexpected can — and will — go wrong.

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Let’s take a look at some key points to address going forward and planning opportunities now that the SECURE Act is in force:

‘Stretch’ IRAs are eliminated, but there are exceptions

“Stretch IRAs” for years were a way of reducing the tax bill non-spouse beneficiaries pay when they inherit IRAs. These beneficiaries could stretch out their required minimum distributions (RMDs) over their lifetimes, taking smaller payments along the way, and thus paying less in taxes. That has now changed with the SECURE Act.

While it is true that “stretch” IRAs have been eliminated, this only applies to those not deemed “eligible designated beneficiaries.” Eligible designated beneficiaries, who can still stretch their RMDs, include:

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  • Spousal beneficiaries
  • Beneficiaries not more than 10 years younger than the decedent
  • Certain minor children of the original retirement account owner, but only until they reach the age of majority
  • Disabled beneficiaries as defined by IRC Section 72(m)(7)
  • Chronically ill beneficiaries as defined by IRC Section 7702B(c)(2) with limited exception
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With beneficiaries who are not deemed eligible, the retirement accounts will have to be depleted by the 10th year after the account owner passes.

Removal of RMD stretch provisions will complicate certain types of trusts — known as conduit IRA trusts or “pass-through trusts” — drafted prior to this bill. Simply put, a conduit IRA trust without appropriate language holds back the beneficiary from making additional distributions and can cause a tax nightmare. Going forward, these trusts need to be aligned with current SECURE language that doesn’t restrict access to funds in order to take distributions in excess of the RMD.

For example, an individual age 69 leaves their $500,000 IRA to a conduit IRA trust with the beneficiary being a child age 29. Before the SECURE Act went into effect, RMDs would be based on the beneficiary’s life expectancy (which is 53.3 according to IRS Life Expectancy Tables). However, after Jan. 1, 2020, the 10-year rule is in place (unless they are an eligible designated beneficiary) and the beneficiary would have to deplete the IRA in 10 years or less. Since the conduit IRA trust is based on old language using life expectancy, the beneficiary will have smaller distributions in the first nine years but an enormous one in the last year.

Before the SECURE Act, Stretching Benefits Out

Let’s assume the balance was $500,000 on Dec. 31, 2019, and the account earns 3% each year. Here’s a breakdown of withdrawals and balances BEFORE the SECURE Act went into effect:

AgeLife Expectancy Factor12/31 BalanceRMD Amount
3053.3$500,000$9,381
3152.3$505,338$9,662
3251.3$510,546$9,952
3350.3$515,612$10,251
3449.3$520,522$10,558
3548.3$525,263$10,875
3647.3$529,820$11,201
3746.3$534,178$11,537
3845.3$538,320$11,883
3944.3$542,230$12,240

Those withdrawals would continue for years more, thanks to the stretch IRA provision the beneficiary enjoyed prior to the SECURE Act.

After the SECURE Act, a Big Tax Bomb in Year 10

And here is a breakdown of what this beneficiary’s account balances might look like if they inherited AFTER the SECURE Act went into effect. The beneficiary is now a year older and is still earning 3%, with his withdrawals looking somewhat similar … until Year 10. Here’s a breakdown after Jan. 1, 2020:

AgeLife Expectancy Factor12/31 BalanceRMD Amount
3152.4$500,000$9,542
3251.4$505,172$9,828
3350.4$510,204$10,123
3449.4$515,083$10,427
3548.4$519,796$10,740
3647.4$524,328$11,062
3746.4$528,664$11,394
3845.4$532,788$11,735
3944.4$536,685$12,088
4043.4$540,335$540,335

Although the beneficiary is one year older, the significant difference is the mandatory depletion of the IRA in Year 10.

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Again, make sure the conduit trust has the appropriate language or use an accumulation trust to retain RMDs with possibly more flexibility. In my opinion, one of the most overlooked factors for beneficiaries is asset protection, with distributions subject to creditor’s claims.

Consider Roth conversions under current tax rates

Currently, our tax rates are at historic lows at least until the end of 2025. With that being said, those contemplating leaving sizable amounts of their retirement accounts to children or grandchildren should reconsider a Roth conversion.

While 37% is the highest tax rate in 2020, one should consider how a 10-year distribution can considerably increase a beneficiary’s tax bracket.

For example, say a couple has $3 million in their IRA and their only beneficiary is a married child with no children. Let’s say the beneficiary’s household income is already $350,000, the marginal tax rate is 32%. With a 10-year distribution and no expected changes in their income, their total household income would increase overall to $650,000 ($3 million ÷ 10 years = $300,000 per year). That results in a new marginal tax rate of 37% over the next 10 years if taxes don’t increase.

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Instead, if the couple could start converting small amounts of their IRA to a Roth over time, there’s a good chance they can possibly stay in the same tax bracket while moving taxable money to tax-free.

I’ve been counseling my clients for years to strategically convert their taxable retirement accounts to tax-free without affecting Medicare Part B premiums. In my opinion, one must weigh the pros and cons with each decision but not make knee-jerk reactions that will ultimately become costly later.

Use charitable trusts and direct charitable beneficiaries

By using charitable trusts – such Charitable Lead Trusts (CLTs) and Charitable Remainder Trusts (CRTs) – you can still take advantage of large upfront deductions as high as 60% of adjusted gross income (learn more by reading 5 Charitable Planning Options That Can Save You Money on Taxes). In addition, these trusts can help with the problem that the elimination of the stretch IRA poses.

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Naming a charitable remainder trust as a beneficiary is a way of “stretching” the distributions past the 10-year mark. Since the trust is technically the beneficiary of the retirement account, a child (or children) would be named income beneficiaries and can effectively receive the dispersals over a longer period of time.

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Also, naming a charity and skipping any potential distributions to a child or children might be the better way to go and avoid any taxation.

The popularity with Qualified Charitable Distributions (QCDs) should also rise as it’s another go-to solution for unwanted RMDs. With this, an account owner can give up to $100,000 from their IRA each year, which should satisfy the RMD and dilute the retirement account once death occurs.

While there are many ways to creatively plan ahead with charitable beneficiaries, you’ll have to evaluate which ones make sense and implement accordingly.

Fund wealth transfer with life insurance

For many years, I’ve used life insurance as a remedy for estate tax purposes. With the SECURE Act, this will only increase the importance of life insurance as a wealth transfer conduit (learn more by reading Tax Rules on 10 Different Retirement Accounts and Investments).

Although certain health conditions may disqualify some from being approved, it’s crucial to qualify while you’re still healthy. In general, most should look at guaranteed universal life or whole life policies to keep stable premiums. Policies such as indexed universal life can work out in the long run, but they need to be reviewed annually. However, I would stay away from variable universal life as it can potentially complicate the initial objective — to pass a tax-free death benefit to beneficiaries (learn more by reading 4 Tax-Free Income Sources to Supplement Retirement).

Even though there are several routes to structure a life insurance policy, the most basic one would be to use the RMD to fund the premium. With this scenario, you’re both depleting the taxable amount inherited while substituting it for a tax-free option.

It’s imperative to know that the mentioned strategies can be complex and should be affirmed by your attorney, accountant and financial adviser. One can easily misinterpret something read that will lead to a legal or tax nightmare.

About the Author

Carlos Dias Jr., Wealth Adviser

Founder and President, Dias Wealth LLC

Carlos Dias Jr. is a financial adviser, public speaker and president of Dias Wealth LLC, in the Orlando, Florida, area, offering strategic financial planning services to business owners, executives, retirees and professional athletes. Carlos is a nationally syndicated columnist for Kiplinger and has contributed, been featured or quoted in over 100 publications, including Forbes, MarketWatch, Bloomberg, CNBC, The Wall Street Journal, U.S. News & World Report, USA Today and several others. He's also been interviewed on various radio and television stations. Carlos is trilingual, fluent in both Portuguese and Spanish.

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