Positive Impact On Retirement Savings, Challenges When Passing On Substantial Retirement Account Balances
The U.S. Congress often uses the tax code to influence the behavior of American citizens. For example, it is in our nation’s best economic interest to have a robust real estate market. Therefore, our tax code provides many favorable tax provisions related to home ownership. It is also in our best interest to have people support charitable causes. Therefore, the tax code offers numerous tax deductions for gifts to charitable organizations. In a similar fashion, it is in our nation’s best interest for individuals to save sufficiently so they are capable of financially supporting themselves during retirement. Therefore, our tax code contains numerous tax advantages for employer sponsored qualified retirement plans and individual retirement accounts (IRAs).
In order to further incentivize retirement savings, Congress recently passed the Setting Every Community Up for Retirement Enhancement (SECURE) Act of 2019, a new tax legislation that will significantly impact employer provided qualified retirement plans, such as 401(k) plans, and individual retirement accounts. Many of the provisions are simply minor tweaks, such as increasing the age at which required minimum distributions must be taken from age 70 1⁄2 to age 72. Other provisions are aimed at making changes to employer provided plans, such as a provision that permits more part-time employees to participate in qualified plans. In addition, there are changes that maximize the appeal of retirement plans such as a provision eliminating penalties for withdrawals used to cover the costs of child birth or adoption and a provision allowing IRA owners to continue contributing to their IRAs past age 70 1⁄2.
However, there was one change that could have a negative impact on families who have accumulated substantial amounts in their qualified retirement plan or IRA. A participant in a qualified retirement plan or the owner of an IRA may name younger family members (typically their children) as the beneficiary. Upon death, the beneficiary may choose to have the entire account balance immediately distributed to them. However, with a few exceptions, the entire amount would then be considered taxable income to the beneficiary in the year of the distribution.