The Stretch IRA is Gone: What Now?
Strategic Planning for Life After the SECURE Act
The Setting Every Community Up for Retirement Enhancement (SECURE) Act was signed into law in December of 2019, bringing with it some meaningful changes to the rules governing retirement savings. Among other changes, the SECURE Act eliminated the so-called “stretch” IRA for the vast majority of beneficiaries. This change could prove troublesome for those who have built some of their long-term financial plans around passing down an IRA to heirs – or inheriting one themselves.
If you find that your future plans were disrupted by the elimination of the stretch IRA, you’re not alone. Below, we’ll dig into the details of the change and provide guidance on what steps you might consider next.
Understanding the Changes
In years past, the stretch IRA provision allowed someone who inherited an IRA to withdraw the funds as slowly as they wished. This allowed many people to use their inherited IRA as a source of income for life. Per changes in the SECURE Act, the funds in inherited IRAs are now required to be withdrawn in full within ten years (with a few exemptions, discussed below).
SECURE Act Exemptions
Although the elimination of the stretch IRA is worrisome, it doesn’t impact everyone. First, the 10-year rule only applies if the IRA owner passed away on January 1, 2020, or later. If you inherited an IRA prior to that date, the new rule won’t apply to you. However, if you intend to pass down your inherited IRA to your own heirs, they will be subject to the accelerated withdrawal requirement.
Other IRA beneficiaries are exempt from the SECURE Act changes regardless of the date the IRA owner passed away. This includes:
- Surviving spouses
- Beneficiaries who are disabled or chronically ill
- A minor child of the IRA owner (Note: The 10-year rule begins applying once the minor reaches the age of majority.)
- A beneficiary no more than 10 years younger than the IRA owner
Strategies for Current IRA Holders
If you’re concerned about the SECURE Act negatively impacting your financial plans, here are four new strategies you might consider:
1. Utilize an Accumulation Trust
Consider the idea of designating the assets in your IRA to be distributed to an accumulation trust. Your IRA would still need to be drawn down in ten years or less, but creating a trust means it can hold those distributions, protecting your money against creditors and wasteful spending.
2. Add Your Spouse as a Beneficiary
As noted above, surviving spouses are exempt from the 10-year rule. So, even if your spouse has enough saved for retirement and you planned to designate a child or grandchild as your IRA beneficiary, it may be best to designate your spouse instead. Your spouse can still stretch distributions over their lifetime and designate your kids or grandkids as beneficiary. Doing so means you can likely delay the start of the 10-year rule for your beneficiaries who must abide by it.
3. Consider a Roth Conversion
Converting your traditional IRA to a Roth IRA would reduce the tax burden on your beneficiaries. You’ll be required to pay income tax on the amount you convert, but you can minimize the impact if you choose to spread the conversion over multiple years. Then, your Roth IRA beneficiary will be able to make withdrawals tax-free during the 10-year withdrawal period.
4. Replace Lost Income with Alternative Asset Types
If you’ll face lost income due to the elimination of the stretch IRA, consider that payouts from life insurance policies or a non-qualified annuity can help you plug the holes in your financial plan. Both of these asset types can be used to provide a lifetime income stream to your beneficiaries instead of using an IRA.
Strategy for IRA Beneficiaries
If you know you’re going to inherit an IRA, you’ll need a strategy for overcoming the financial disruption created by the SECURE Act’s provisions. This means being thoughtful and strategic about your distributions.
While many people assume it’s best to take a lump sum at the end of the 10-year withdrawal window, it may actually be more tax-efficient for you to take a distribution annually for ten years. If you take larger distributions in the years when you find yourself in a lower tax bracket, for instance, you’ll pay less in taxes over time. It will be important to work with your tax advisor to determine the optimal amount to withdraw each year.
Utilizing a Financial Advisor
The above tips are guidelines, though they are not optimal to follow in every circumstance. Knowing that the SECURE Act has changed your financial plan is important, but understanding the best steps to take to secure your future means utilizing the guidance of a professional.
If you’re unhappy with your current financial advisor or you’re looking for your first one, please reach out to us today. Changes in the law that upend financial plans can be stressful and confusing, but we’re here to help. We look forward to the opportunity to discuss the SECURE Act, as well as answer your questions and help you build a financial plan that accomplishes your long-term goals for yourself and your family.