The Opportunities and Challenges from the Newly Passed SECURE Act


Congress recently passed—and the President signed into law—the SECURE Act, landmark legislation that may affect how you plan for your retirement. Many of the provisions go into effect in 2020, which means now is the time to consider how these new rules may affect your tax and retirement-planning situation.

While there were some provisions which changed how an employer’s retirement plan operates, our focus here is on the changes to individuals. In our opinion, the individual changes are quite significant. Here is a look at some of the more important elements of the SECURE Act that have an impact on individuals.

Partial Elimination of Stretch IRAs

We’ll start with the most dramatic change under the new law. For deaths of plan participants or IRA owners occurring before 2020, beneficiaries (both spousal and nonspousal) were generally allowed to stretch out the tax-deferral advantages of the plan or IRA by taking distributions over the beneficiary’s life or life expectancy (this is sometimes referred to as a “stretch IRA”). Taking smaller, more frequent distributions was favorable in that the taxable income from the plan or IRA was more manageable.

However, for deaths of plan participants or IRA owners beginning in 2020 (later for some participants in collectively bargained plans and governmental plans), distributions to most nonspouse beneficiaries are generally required to be distributed within ten years following the plan participant’s or IRA owner’s death. So, for those beneficiaries, the “stretching” strategy is no longer allowed.

Exceptions to the 10-year rule are allowed for distributions to (1) the surviving spouse of the plan participant or IRA owner; (2) a child of the plan participant or IRA owner who has not reached majority; (3) a chronically ill individual; and (4) any other individual who is not more than ten years younger than the plan participant or IRA owner. Those beneficiaries who qualify under this exception may generally still take their distributions over their life expectancy (as allowed under the rules in effect for deaths occurring before 2020).

Individuals with large plan or IRA balances will need to understand how the loss of the “stretching” strategy will affect their heirs. Those with large retirement plan or IRA balances may need to consider alternate strategies, including Roth IRA conversions, as they address this change.

Required Minimum Distribution Age Raised from 70½ to 72

Before 2020, retirement plan participants and IRA owners were generally required to begin taking required minimum distributions, or RMDs, from their plan by April 1st of the year following the year they reached age 70½. The age 70½ requirement was first applied in the retirement plan context in the early 1960s and, until recently, had not been adjusted to account for increases in life expectancy.

For distributions required to be made after December 31st, 2019, for individuals who attain age 70½ after that date, the age at which individuals must begin taking distributions from their retirement plan or IRA is increased from 70½ to 72. While individuals would usually tend to delay RMDs for as long as possible, certain individuals may want to take some RMDs before the required beginning date based on the loss of the “stretching” strategy.

Repeal of the Maximum Age for Traditional IRA Contributions

So far we’ve only talked about distributions from retirement plans, but there was also a change related to allowable contributions. Before 2020, traditional IRA contributions were not allowed once the individual attained age 70½. Starting in 2020, the new rules allow an individual of any age to make contributions to a traditional IRA, as long as the individual has compensation, which generally means earned income from wages or self-employment. Again, whether individuals choose to make contributions will depend on their overall retirement plan.

Expansion of Section 529: Education Savings Plans to Cover Distributions to Repay Certain Student Loans

Individuals with student loans were granted some relief with the SECURE Act. A Section 529 education savings plan (also known as a qualified tuition program) is a tax-exempt program established and maintained by a state, or one or more eligible educational institutions (public or private). Any person can make nondeductible cash contributions to a 529 plan on behalf of a designated beneficiary. The earnings on the contributions accumulate tax-free. Distributions from a 529 plan are excludable up to the amount of the designated beneficiary’s qualified higher education expenses.

Before 2019, qualified higher education expenses didn’t include the expenses of registered apprenticeships or student loan repayments. But for distributions made after December 31st, 2018 (the effective date is retroactive), tax-free distributions from 529 plans can be used to pay for fees, books, supplies, and equipment required for the designated beneficiary’s participation in an apprenticeship program. In addition, tax-free distributions (up to $10,000) are allowed to pay the principal or interest on a qualified education loan of the designated beneficiary, or a sibling of the designated beneficiary.

Kiddie Tax Changes for Gold Star Children and Others

In 2017, Congress passed the Tax Cuts and Jobs Act, which made changes to the so-called “kiddie tax,” which is a tax on the unearned income of certain children. Before the enactment of the TCJA, the net unearned income of a child was taxed at the parents’ tax rates if the parents’ tax rates were higher than the tax rates of the child.

Under the TCJA, for tax years beginning after December 31st, 2017, the taxable income of a child attributable to net unearned income is taxed according to the brackets applicable to trusts and estates. The net result was that the child’s unearned income was usually taxed at a higher rate starting in 2018. Politically, there was pressure to change this for “gold star children” (survivors of deceased military personnel, first responders, and emergency medical workers) who faced higher taxes on the government payments received.

The new rules enacted on December 20th, 2019, repeal the kiddie tax measures that were added by the TCJA. So, starting in 2020 (with the option to start retroactively in 2018 and/or 2019), the unearned income of children is taxed under the pre-TCJA rules, and not at trust/estate rates. We will be keeping an eye out for further guidance on this retroactive change and how it affects the returns of our clients.

Penalty-Free Retirement Plan Withdrawals for Expenses Related to the Birth or Adoption of a Child

Generally, a distribution from a retirement plan must be included in income. And, unless an exception applies (for example, distributions in case of financial hardship), a distribution before the age of 59 ½ is subject to a 10% early withdrawal penalty on the amount includible in income.

Starting in 2020, plan distributions (up to $5,000) that are used to pay for expenses related to the birth or adoption of a child are penalty-free. That $5,000 amount applies on an individual basis, so for a married couple, each spouse may receive a penalty-free distribution up to $5,000 for a qualified birth or adoption.

The changes in the law as a result of the SECURE Act might provide you and your family with tax-savings opportunities. However, not all of the changes are favorable, particularly the loss of the “stretch IRA”. To find out if there are steps you can take to minimize the impact of some of these rules, contact Cray Kaiser. If you would like to discuss how the SECURE Act affects your situation or if you have any other tax related questions, please don’t hesitate to call us at 630-953-4900.

Please note that this blog is based on tax laws effective in January 2020, and may not contain later amendments. Please contact Cray Kaiser for most recent information.