While you were on your end-of-year holiday, Congress pushed through the $1.7 trillion Omnibus Spending Bill. Buried in the law are 300 pages of changes related to retirement plans and retirement planning. It may have been a last-minute bill, but the retirement-related provisions have been in planning for over 2 years. Should you worry about these changes? No. Are there things you should know about the new legislation? Yes.
1. What Is SECURE 2.0?
The new retirement law is referred to as SECURE 2.0 because it’s a follow-up to its big brother, the SECURE Act, which was passed late in 2019. This legislation is important, but in many ways, it’s not plowing new ground. With only a few exceptions, there are no new retirement vehicles or major changes to tax regimes. Still, it contributes towards helping Americans with their retirement readiness.
Let’s consider both what the law doesn’t cover and what it does cover. And then let’s examine how it affects both pre-retirees and retirees.
2. What SECURE 2.0 Does Not Cover
First, SECURE 2.0 doesn’t touch Social Security or Medicare. Even though these baseline government programs need shoring up, that’s for Congress to grapple with another day. Also, SECURE 2.0 doesn’t try to return America to the days of defined benefit pension plans. This means that 401(k)s are here to stay.
3. What SECURE 2.0 Covers
More Incentives For Employers To Provide Retirement Plans
It offers more incentives and it mandates more requirements for employers to create qualified retirement plans. Using a carrot and stick approach, the legislation gives small businesses tax credits for setting up plans, simplifies administering plans (or at least tries to), and attempts to expand the base of which employees must be covered. For example, it tightens the requirements as to which permanent part-time employees must be covered in employer-qualified plans.
More Incentives To Participate In Employer Retirement Plans
Since employees end up funding much of their own retirement, the law offers more incentives for employees to participate in their employer plans. Many will be auto-enrolled in their 401(k) plan, and Congress is making it easier for employees to access their accounts penalty-free when life events occur. Examples include new access to the account in the case of domestic abuse or after a federally declared disaster in the area. In a nod to encourage younger employees to start saving, SECURE 2.0 allows the paydown of student loans to be treated as a contribution for employer matching. And for those closer to retirement, it allows for more “catch-up” contributions to their employer plans.
Opportunities To Turn Retirement Wealth Into Retirement Income
Finally, the legislation creates more ways to turn retirement wealth into retirement income. A number of the provisions help convert the pot of money represented by IRAs and 401(k)s into streams of retirement income similar to the old-fashioned pension plan. The difference is that the employee, not the employer, has to make the move to annuitize their retirement savings.
The bottom-line objective of this law is to help Americans build up more retirement savings and have more sources of lifetime income in retirement. It’s a smorgasbord of gifts with few takeaways.
4. How SECURE 2.0 Helps Pre-Retirees
Increased Retirement Contributions
If you’re getting ready for retirement and are willing to save more, SECURE 2.0 can help. Employees who are ages 60–63 can generally increase their catch-up contributions to their 401(k)s by 50 percent. And the law is clearly pushing Americans towards having more after-tax plans (the so-called “Roth”) in their retirement portfolio. In fact, for more affluent employees, the additional catch-up must be in an after-tax Roth. And for all, the law allows employers to offer their 401(k) employer match to be after-tax.
The 401(k) Roth account already exists, but it can now be larger through after-tax employer matching. What this means is that employees are more often going to be paying income tax now on their retirement contributions, but in return, their retirement plans will build tax-deferred and pay out tax-free. An added bonus is that these 401(k) Roth accounts will not be subject to the dreaded required minimum distribution (RMD) rules.
5. How SECURE 2.0 Helps Retirees
Required Minimum Distributions Changes
No one likes being told by the government how much money they have to take out of their qualified accounts in retirement. A popular way retirees avoid RMDs is to have their money residing in Roth IRA accounts. SECURE 2.0 makes this process easier to manage by also allowing Roth 401(k) accounts to be exempted from the lifetime RMD rules. As a result, when you retire, you don’t have to automatically switch from your Roth 401(k) to a Roth IRA to avoid RMDs.
Furthermore, a big change for retirees is an easing of the RMD age. If you’re already 72 and taking RMDs, there’s no change. But for those under 72, the RMD age has been moved up to 73 this year and will increase to 75 starting in 2023. While this easing of the rules is being celebrated by many affluent pre-retirees and retirees, financial advisors often caution about the appropriateness of limiting retirement plan withdrawals. Just because a retiree can take less from their qualified plans now doesn’t mean that they necessarily should.
Pro Tip: Inherited IRAs are a tax burden to future generations and inefficient as an estate planning tool. At a minimum, retirees should consider converting some of their IRAs into Roth IRAs. This is not just to avoid RMDs during life but also to provide heirs with a tax-free inheritance.
Qualified Longevity Annuity Contract Options
The law also gives retirees added options in how they structure their retirement income by liberalizing the rules for QLACs (a “qualified longevity annuity contract”). With a QLAC, retirees can take some of their built-up qualified retirement savings and have an insurance company guarantee to pay out in the form of a lifetime income later in life. Rather than having to manage a portfolio of stocks and bonds targeted for a time late in retirement, the QLAC will begin making the payments when the retiree is elderly and continue the payments for life. Although this concept has been available for over 8 years, Congress has now expanded and improved access to these plans. Think of the QLAC as a way to create a do-it-yourself pension plan for your golden years.
What, If Anything, Is Next?
Congress has been congratulating itself on passing bipartisan retirement legislation twice in 3 years, and they may take a break for a while. But looming in the very near future is the underfunding of both the Social Security and Medicare systems. Also, we’re still waiting for the IRS to tell us how they intend to tax inherited IRAs. Still, we may see Congress taking a break this year from retirement-related issues.
Pro Tip: SECURE 2.0 is a big bill filled with few provisions. A lot of the law is aimed at younger savers and underserved markets. Still, there’s something in the law for everyone — with almost no takeaways. If you’re a retiree, or getting ready to be one soon, keep an eye on SECURE 2.0’s provisions regarding catch-up contributions, Roths, and RMDs. You stand to benefit, but you have to do the planning.
If you want to learn more about how the Omnibus Spending Bill and SECURE 2.0 will benefit older adults, visit our sister site, Seasons.