President Trump’s signing of the Secure Act just before Christmas marks the biggest change in retirement savings law in more than a decade. While several of the provisions may be worthy of celebration, there are others that are not necessarily good news.
For example, the law makes it easier for retirees to purchase expensive, potentially unnecessary products inside 401(k) plans. On the positive side, the new law eliminates the age limit for contributions to traditional individual retirement accounts, and long-term, part-time workers are now eligible to participate in 401(k) plans.
While people over 70½ can now contribute to IRAs, only earned income can be contributed. That means income from assets, such as stocks, bonds or real estate are prohibited. Meanwhile, retirees can now wait longer before taking money out of their IRAs. Previously, the age was 70½. Now, people can wait until they’re 72. This change benefits wealthier retirees who don’t need to draw on IRA balances for living expenses and want to see funds grow as long as possible within a tax-deferred vehicle.
One of the more unfavorable changes to IRA accounts comes from a “stretch” provision modification. Under the new law, beneficiaries who are more than 10 years younger than the deceased owner must withdraw the entire inherited IRA balance over a period of 10 years and pay taxes on the money unless they qualify as one of the act’s defined exceptions. The tax consequences could be significant for lower-income inheritors, who may be bumped into a higher tax bracket. Those planning to use IRAs in a wealth transfer strategy should consult with their tax, legal and financial advisers about alternative strategies.
Another provision in the new law allows part-time workers to participate in 401(k) programs, which is of particular benefit to women, who make up the majority of the nation’s part-time workforce. Previously, IRAs were the only retirement savings option available to part-timers. Now, they’ll have access to accounts with better investment funds and perhaps a matching benefit from employers. The new law also allows employees to withdraw up to $5,000 – penalty-free but not tax-free – in the case of birth or adoption.
As for plan sponsors, the new 401(k) provision contains advantageous changes to safe harbor rules, allowing the ability to apply for tax credits when starting a 401(k) plan or adding an automatic enrollment provision.
The new law also expands the way 529 savings accounts can be used to help pay for college. Now, up to $10,000 from a 529 account can be used to retire some types of student loan debt.
The most troubling provision in this new law will make it easier for 401(k) plan sponsors to offer annuities within retirement programs. The new law requires a “lifetime income disclosure” at least once a year on employee statements, which could lead many into buying an annuity product. While appropriate in some circumstances, annuities are typically more expensive than low-cost, index funds and are often sold by commission-driven advisers.
As more Americans find themselves unprepared for retirement, some provisions in the new law will be beneficial, but investors should be aware of the red flags. Those who need help navigating the new landscape may want to consider working with a fee-only, fiduciary financial adviser, who is required to put the client’s interests ahead of their own.
Tyler Grubbs is an accredited investment fiduciary at Full Sail Capital, an SEC registered investment adviser in Oklahoma City.