Congress has tried to create incentives for Americans to save for retirement. With retirement savings vehicles like employer-sponsored 401(k) plans and IRAs, savers are able to set money aside for their golden years in a way that can produce immediate tax savings, as well as offer many long-term benefits. Yet many don't make maximum use of their retirement savings opportunities, and that's created a potential financial crisis among those nearing retirement age.
To try to address these concerns, lawmakers recently introduced a new bill to make major changes to the way that Americans can save using these tax-favored retirement accounts. The SECURE Act -- standing for Setting Every Community Up For Retirement Enhancement -- seeks to take several steps toward enhancing the available tax breaks for retirement savers, as well as encouraging more people to participate. With bipartisan support, there's a better-than-average chance that the SECURE Act could become law, and so it's important to anticipate some of the changes that could result.
What the SECURE Act aims to do
The SECURE Act has extensive provisions, with even its summary covering six pages. However, the biggest changes that the House version of the bill makes to the retirement savings landscape include the following:
- Contributions to traditional IRAs would be allowed beyond age 70 1/2, taking away the current prohibition on such contributions.
- Required minimum distributions (RMDs) from traditional IRAs and 401(k)s wouldn't begin until age 72, up from age 70 1/2 currently.
- Long-term part-time workers would be allowed to participate in 401(k) plans.
- Several protections for annuities and other lifetime income options would be created, including expanding safe harbors to protect employers who include such options in their plans, and allowing for the portability of lifetime income products between plans or from a 401(k) to a rollover IRA.
- Automatic escalation of contributions could go as high as 15% of pay, up from the current 10% maximum.
- Small employers would get expanded tax credits for creating plans and encouraging auto-enrollment, and they'd be able to participate in multi-employer plans more easily.
There are some small differences in the Senate version of the bill. Unlike the House version, the Senate would keep the RMD beginning date at age 70 1/2. However, many of the key provisions of the two versions are identical.
An end to the stretch IRA?
However, to help pay for the provision, the SECURE Act would eliminate one of the most valuable long-term benefits of retirement accounts. For IRA and 401(k) beneficiaries other than a surviving spouse, a person no more than 10 years younger than the retirement account holder, disabled or chronically ill individuals, or minor children of the account holder, withdrawals of all money inherited in an IRA or 401(k) would have to be complete within 10 years of the account holder's death.
That would be a big change from the current rules, which in many cases allow children and even grandchildren to take inherited IRA and 401(k) distributions over the course of their lifetimes. These so-called stretch IRA provisions dramatically extended the period of time that IRAs enjoy their tax-advantaged status, often extending generations beyond the lifetime of the original account holder. The faster withdrawals that the new rules would require would in turn hasten the need to include income from traditional IRA and 401(k) distributions, and reduce the amount of time one could benefit from tax-free growth in Roth IRAs.
Will it work this time?
Lawmakers have made similar proposals numerous times in the past, and despite bipartisan support, they never managed to get enacted. However, there are some key interest groups that would like to see these provisions become law, especially those in the insurance industry that might end up being some of the biggest providers of the lifetime income products that the new rules call out multiple times.
Saving for retirement is important, and making retirement savings simpler is essential in order to demonstrate to Americans why they need to save more. Changing rules for beneficiaries is a high price to pay, but some would believe it's worth it if it helps to solve the broader savings crisis affecting those approaching retirement.