Since 1974, Americans have been able to save for retirement in the form of a tax-advantaged Individual Retirement Account (IRA). Not only did this provide a way for Americans to grow their assets on a tax-free or tax-deferred basis, it also allowed for many savers to pass on their IRA as a legacy, either to a surviving spouse, child, or grandchild. Surviving non-spouse beneficiaries--children or grandchildren--can use the IRA for various purposes, from paying for college to building their own retirement.
A potential gift from one generation to the next, that was part of the deal American workers have enjoyed for decades, and its benefits were appealing enough for most Americans to take it. All of those benefits are about to change. And you can thank Congress for it.
Last May, the House just passed the Setting Every Community Up for Retirement Enhancement Act or the Secure Act for short. The problem: it eliminates the Stretch IRA, the estate planning option that allows you to extend the tax-deferred status of your IRA to a surviving non-spouse beneficiary.
Currently, a parent can die realizing that his or her child’s retirement may be taken care of. Should Congress get its way, an IRA will no longer be passed on as a sustainable tax-free or tax-deferred legacy from one generation to another. In the end, this bill reduces the value of nearly all retirement plans, IRAs, Roth IRAs, 401(k)s...the whole lot.
The vote passed the House by 417-3. The Secure Act is expected to pass the Senate unanimously.
10 Years for Non-Spouse Beneficiaries to Clear Out Your Their Funds
If your child or grandchild inherits your IRA upon your passing, he or she will have 10 years to pull out all of the money. This potentially makes the IRA subject to higher taxes, as distributions will have to be made in larger chunks. You can be certain that under the Secure Act, a third more of an inherited IRAs value will be eaten up by taxes.
A Toxic Taxpocalyptic Burden
As much as we’re enjoying the Trump tax cuts, they’re due to expire in 2025. If Trump were to sign the Secure Act into law, then by 2025, the combination of expiring tax cuts plus revenues generated from the Secure Act will be a boon for government, and a TAXpocalpyse for most Americans.
The age at which you’ll be required to take minimum IRA distributions will be pushed back to 72 (from 70 ½). If a surviving spouse inherits an IRA, then he or she is exempt from the 10-year rule. But then the spouse will now have a significant tax burden, having to pay higher taxes in the “single” bracket. His or her bracket can jump from 12% to 25%, or worse, from 24% to 35%. Remember, the mandatory payout ratios also increase with age, and so too will the taxes.
But what if you intend on passing your IRA directly to your child? Let’s say you’ve managed to build an IRA worth $1 Million. Because your child is subject to the 10-year distribution limit, he or she will have to take a $100,000 annual payout each year for an entire decade...on top of his or her salary. If your child happens to live in a high-tax state, roughly half of that entire payout could be gobbled up by taxes!
A Restrictive Burden on College Planning
If your child’s or grandchild’s college savings play a factor in your IRA plan, then the Secure Act might be a nightmare when it comes time for your child to cash in and pay for that degree. Imagine passing down an IRA worth $500,000. Under the 10-year law, the beneficiary would have to take highly taxed annual distributions of $50,000.
On paper, your beneficiary appears much wealthier than he or she is. And what if he or she needs financial aid? The mandatory distributions might be high enough to disqualify your beneficiary from ever receiving the much-needed aid.
A Disaster for Estate-Planning
If you have a significant amount in your IRA, say, $1 Million, and you intended to place it in a trust fund for a minor (like an 8-year old), then he might not receive anything for the next nine years. But in the 10th year, the IRA, by law, would have to pay out the entire amount. The child, now 18 years old, gets a massive windfall--the IRA might have even doubled to, say, $2 Million, perhaps more. Then, he will be taxed at the highest levels. If he can keep it in the trust, then he may be taxed at around 37% on the federal level alone (for income exceeding $12,500). Things get worse when you factor in the state taxes.
Favorable to the Annuities Industry
Besides government, who else loves the Secure Act? Insurance companies, particularly annuity providers. A Secure Act mandate has it so tat annuities can be offered as a payout option. Annuitizing your retirement assets is bad...on so many levels. Plus, the additional fees and complex regulations that make it easy for insurance companies to profit at the expense of their annuity customers. Hardly any annuity option is a good option. For some reason, Congress believes that it is...but in the end they come out the winners at your (and your beneficiary’s) expense.
A Win for Government
In the end, politicians are able to generate more tax revenue without actually having to raise taxes. The taxes have been raised, it’s just that in this case, they’re just hidden.
Of course, there are a few ways to avoid this entire scenario. If you hold cash or equities in a taxable account, you can avoid all of this now. And if you hold gold or silver in private storage, then your “sound money” is 100% yours to keep, spend, or pass on as a valuable legacy.