New Tax Law May Affect Your Retirement
On December 20, 2019 the SECURE Act became law. The goal of the new law is to encourage more Americans to begin saving for retirement or to boost already established retirement plans. What does this new tax law mean for you?
Starting in 2020 individuals may contribute to a traditional IRA regardless of their age. The only requirement is that the individual have earned income (for example, wages or self-employment income). Prior to the new law an individual could not make contributions to a traditional IRA after reaching age 70½. There has never been an age limitation on contributions to Roth IRAs.
Since individuals have until April 15 to make IRA contributions, there is still time to make a contribution for tax year 2019. If you are eligible for a traditional IRA, the maximum contribution for 2019 is $6,000 or $7,000 if you are over the age of 50.
FELLOWSHIPS AND STIPENDS
In order to made contributions to an IRA, a taxpayer must have earned income. Many times graduate students receive taxable fellowship and stipend payments. These types of payments were not considered compensation for IRA contribution purposes. Beginning in 2020 the new act treats taxable non-tuition fellowships and stipend payments as compensation thereby permitting the student to contribute to an IRA and begin saving for retirement earlier.
REQUIRED MINIMUM DISTRIBUTIONS (RMD)
Retirement plan participants and traditional IRA owners are required to take minimum distributions from these plans. Prior to the new act individuals had to begin taking RMDs no later than April 1 of the year following the year in which they reached age 70½. The new act has changed the age by which RMDs must be taken to age 72. Hence, for taxpayers who are turning 70½ in 2020, they can now wait until age 72 to take RMDs.
PENALTY FREE WITHDRAWALS
The purpose of retirement plans is for taxpayers to have funds available once they are no longer working. Withdrawal from retirement plans prior to retirement age is discouraged by imposing a 10% penalty for withdrawal prior to reaching age 59½. The law does provide limited exceptions to the penalty for early withdrawal. The new act has added another exception to the imposition of the early withdrawal penalty.
Starting in 2020 a taxpayer can withdraw up to $5,000 from a retirement plan if the funds are used for expenses related to the birth or adoption of a child. The $5,000 limit is per individual and the withdrawal must take place in the year of birth or adoption. Hence, a husband and wife could each withdraw $5,000 if needed to cover expenses of a qualified birth or adoption.
PARTIAL ELIMINATION OF “STRETCH IRAs”
Prior to 2020 when a retirement plan participant of IRA owner died, beneficiaries of the decedent were generally allowed to “stretch” out the tax-deferral advantage of the retirement plan or IRA by taking distributions over the beneficiary’s life or life expectancy. Under the new tax act, beginning in 2020, distributions to non-spousal beneficiaries must be made within ten years following the death of the plan participant or IRA owner thereby eliminating the “stretch IRA”. This rule will not affect beneficiaries who were receiving distributions prior to January 1, 2020.
There are certain exceptions to the ten-year distribution rule. There are for: (1) the surviving spouse and minor child of the plan participant or IRA owner, (2) a disabled or chronically ill individual, and (3) any other individual who is not more than ten years younger than the plan participant or IRA owner. Individuals who fall within one of these exceptions will generally still be able to take the distributions over their life expectancy.
The new act also contains provisions regarding 529 plans, the kiddie tax, multiple employer plans, part time worker contributions and tax credits. If any of these topics apply to you, consult with a tax professional as they are beyond the scope of this article.