The Setting Every Community Up for Retirement Enhancement (“SECURE”) Act became law on January 1, 2020. The SECURE Act made major changes to the distribution rules governing inherited IRAs (both traditional and Roth) and company sponsored retirement plan accounts. In general, the Act requires a designated beneficiary of an inherited retirement account to withdraw the entire balance from the account within 10 years of the year of the original account owner’s death if the account owner dies after December 31, 2019.
However, the SECURE Act carved out a class of beneficiaries who remain eligible to take distributions from an inherited retirement account using the old life expectancy rules. Beginning January 1, 2020, an individual who qualifies as an “eligible designated beneficiary” may continue to use the life expectancy method to calculate minimum annual distributions from an inherited IRA or other retirement account. Those individuals eligible to use this technique are: (i) surviving spouses; (ii) children of the account owner who have not reached majority; (iii) disabled individuals; (iv) individuals who are chronically ill; and (v) beneficiaries not more than 10 years younger than the deceased account owner. All but the surviving spouse category bear a closer look.
Child of the account owner who has not reached majority. People may assume the term “majority” as used in the Act means age 18. For purposes of the new rules, a child could reach the age of majority at age 26. Under current Internal Revenue Code and Regulations, a child may be treated as not having reached the age of majority until age 26 if they have not completed a “specified course of education.” Thus, if both conditions are met, a surviving child of the deceased account owner may use the life expectancy method of calculating distributions until age 26. However, this may change with future regulations. Nevertheless, when the child reaches majority, he must then switch to the new 10 year distribution rule with regard to any funds remaining in the inherited account. This category excludes grandchildren of the deceased account owner.
Furthermore, a child who is disabled as defined in the Internal Revenue Code when he reaches majority may continue thereafter to use the life expectancy method of calculating minimum annual distributions so long as he continues to be disabled.
Disabled persons. Not all disabled persons may use the life expectancy method of calculating minimum annual distributions from an inherited retirement account. Under the Act, an individual is considered to be disabled if she is unable to engage in any substantial gainful activity by reason of a medically determinable physical or mental impairment which can be expected to result in death or to be of long continued and indefinite duration. (This is the same definition used to determine whether a pre-age 59½ withdrawal from an IRA will be subject to the 10% early withdrawal penalty.) The beneficiary must provide proof of her disability. If the beneficiary does not meet, or no longer meets this definition of “disabled,” she must use the 10 year distribution period mandated by the Act.
The chronically ill. Under the Act, a “chronically ill individual” is one who has been certified by a licensed health care practitioner as: (i) being unable to perform at least two activities of daily living for a period that is indefinite and reasonably expected to be lengthy in nature due to a loss of functional capacity , (ii) having a level of disability that is similar to the level of that described in clause (i) above, or (iii) requiring substantial supervision to protect the individual from threats to health and safety due to cognitive impairment. If the beneficiary is deemed to be chronically ill, he may use the life expectancy method to calculate minimum annual distributions from an inherited retirement account. This definition is stricter than the definition found in a typical long term care insurance policy, which will require that an individual be unable to perform activities of daily living for at least 90 days to be deemed “chronically ill.”
Individuals not more than 10 years younger than the deceased account owner. This category of eligible designated beneficiary includes surviving siblings, a domestic partner, or friends of the deceased account owner if they are not more than 10 years younger than the deceased. Any beneficiary falling within this category may use the life expectancy method of calculating required annual distributions from an inherited retirement account.
For any designated beneficiary who is not an eligible designated beneficiary under the Act, he or she must withdraw the entire balance of an inherited retirement account within 10 years after the year of the death of the account owner if the death occurs after December 31, 2019.
The SECURE Act brought significant changes to an already complex area tax law and will have an impact on many financial and estate plans. As with any tax law change, one should review their financial or estate plan to determine how these changes may affect them.
Do you need help understanding the impact the SECURE Act has on your current planning, or need help determining how best to adapt your financial or estate plan to the new law? Give me a call, I can help.