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The SECURE Act is now law, and clients along with advisors are learning how to adapt to the fundamental change. Like any law, the corresponding IRS regulations are not complete yet, and when they are complete we hope a few of the current unanswered questions from the law will become clearer.

Nevertheless, clients are asking the simple question — What do I need to change about my current plan?

Unfortunately, every client is different and there are no silver bullets that solve all the changes easily, so we still encourage you to talk with your advisors about your individual plans. This newsletter provides a couple common situations that apply to a larger number of people. There are multiple other clients situations impacted by The SECURE Act as well, and it is critical for all clients to understand how this new law changes their existing plans.

How The SECURE Act Can Change Planning

There is a lot to wade through with The SECURE Act, and we wanted to show you how it actually changes planning for particular people. So, in this post we’ll be taking a look at a couple specific planning scenarios.

Advisors are still learning how to adapt to the fundamental changes that The SECURE Act has created. Like any law, the corresponding IRS regulations are not yet complete, and when they are complete we hope a few of the current unanswered questions from the law will become clearer.

In addition to the two scenarios we’ll cover in this post, there are multiple other client situations impacted by The SECURE Act, and it is critical for all clients to understand how this new law changes their existing plans.

Scenario 1: The Jones Family – A Typical Married Family With Minors

• The Jones’ completed their planning quite a few years ago.
• At the time their family was still growing.
• This married couple currently has four children ages 20, 17, 13 and 10.

When they completed their earlier plan, they updated all their IRA and 401(k) beneficiaries to have each other as their primary beneficiary, and for simplicity they used their revocable living trust (RLT) as their contingent, or secondary beneficiary.

The Jones’ general estate plan included a deferred distribution for their children, so they used the asset protection features of their RLT. They understood if both of them should pass away, the required minimum distributions (RMDs) of their IRAs and 401(k)s would go to their children but the principal of these accounts would be protected for the deferral period in their RLT. The amount of the children’s RMDs would be determined based on the age of their oldest trust beneficiary. This was the old law, commonly called life-expectancy planning. Under life-expectancy planning the children would receive their inheritance and have deferred income taxes therefore benefiting from the asset protection value of their parent’s plan. The SECURE Act changed all this.

How The SECURE Act Affected This Couple’s Plan

Under The SECURE Act, a minor child may continue to utilize the life-expectancy planning until they reach the age of majority. This means the minor child could still “stretch” the IRA and 401(k) until they reach 18 (in most states). After the child reaches the age of majority, which is governed by state law, then the child must withdraw ALL of the IRA or 401(k) within 10 years. Based on an age of 18, this would mean all the retirement accounts are distributed by the age of 28. So, if the parents were hoping to defer the distributions until age 40 or later, The SECURE Act will force this distribution much quicker on these retirement assets.

Although there are ways to distribute the retirement assets to a protective trust arrangement, the higher trust income tax rates, which would apply when accumulating the distributions in a trust, would be very costly to the beneficiary. Most important, under The SECURE Act and until IRS regulations are completed, it isn’t clear HOW a trust with multiple beneficiaries is recognized for the individual beneficiaries. In the example I shared some of the trust beneficiaries are no longer minors, while others are still minors. This further complicates the scenario for the Jones family.

So, at this time, we would create individual beneficiary trust shares for each of the children, and be sure the beneficiary trust shares are named on the retirement account as contingent beneficiaries (vs. the general trust name) to eliminate the multiple-beneficiary trust issue. Nevertheless, Mr. and Mrs. Jones will need to decide if they are okay with the retirement assets going to their children by age 28, or if they want to use a new protective trust structure and endure the higher trust tax rates. And oh, by the way, little Johnny who wants to buy everything, can take ALL his IRA assets out at one time, if he chooses, even if he’s just 18-years-old.

There are more issues the Jones family may need to consider, and there may be other alternatives that interest them (i.e. a charitable remainder trust structure), but this high-level summary gives an idea of some of the decisions the Jones family will need to make. Based on their decisions, they will then need to modify their retirement asset beneficiaries. Needless to say, Mr. and Mrs. Jones do need to talk with their advisor to fully understand the alternatives.

Scenario #2 – The Smith Family – Protecting Retirement Assets for the Next Generation

• The Smiths have diligently saved with the company retirement plan options, including the company’s 401(k) and other individual plans.
• The Smiths are approaching retirement years, and approximately 75% of their wealth is within their company plans.

The Smiths understand, as they age, their required minimum distribution (RMD) requirements will transition many of their retirement assets to a non-qualified investment account and be taxed as income. The SECURE Act pushes the starting age for these RMDs to age 72, but most of their other individual planning is unchanged by The SECURE Act.

How The SECURE Act Affected the Smith’s Plan

The transition to the next generation has been significantly changed by The SECURE Act. The Smiths realize the timing of when they pass away will have a significant impact on how much of their wealth will be in retirement accounts. The Smiths believe strongly in protecting these retirement assets with the transition to the next generation, and the Smiths want to create multiple-generation plans for their family. The Smiths are concerned the next generation will generally waste these hard-earned retirement assets or be less motivated to build their own career success if these retirement assets were distributed to the beneficiary too early in life.

Unfortunately, the Smith family situation became much more difficult with the large share of retirement assets. The SECURE Act creates significant income tax challenges in passing retirement assets to the next generation for the Smiths. Compared to the old laws, the Smith’s plan became much more complicated. The fundamental emphasis of The SECURE Act was to increase retirement savings, but it also forces accelerated income tax due to the earlier withdrawal requirements for the next generation.

The Smiths can look at multiple alternatives including the following:

  • Conversion of traditional IRA assets to Roth IRA assets
  • Distributing traditional IRA assets to a Charitable Remainder Trust (CRT) with a lifetime income stream for the next generation
  • Using life insurance alternatives to help cover the incremental tax expenses and/or to convert IRA assets to life insurance solutions
  • Trust the next generation with the IRA assets at an earlier age

The Smith’s situation will usually require an integrated plan between the financial advisor, the legal advisor and/or the tax advisor. Additionally, a few of the key assumptions are still being decided by IRS regulations. Most importantly, this well-planned client must understand their old plan will NOT work as expected, so they need to recalibrate with their advisors.

Most client situations have unique circumstances, so again, these two examples only begin to scratch the surface for how The SECURE Act will impact clients’ plans. Ultimately, clients will need to decide what changes, if any, they need to make to their current plans as a result of the law changes. The reality is most plans also have the additional chance to reevaluate their beneficiaries’ ability to handle wealth, and perhaps, in many cases letting the beneficiary have the retirement assets sooner. This same plan could also include an additional delay on the other assets to generate a balanced approach with a simple adjustment for their needs. We look forward to helping you with that process. Please give our office a call at (913) 345-2323 if you think The SECURE Act may impact your current plan.