By a bipartisan vote of 71 to 23 on December 19, 2019, the Senate passed the Setting Every Community Up for Retirement Enhancement (SECURE) Act. The SECURE Act was part of a larger spending bill. The President signed the bill on December 20.
House Ways and Means Chairman Richard Neal (D-MA) and Ranking Member Kevin Brady (R-TX) previously supported the bill. Brady noted, “Our bipartisan legislation makes it easier for main street business to offer retirement plans to their workers by easing administrative burdens, cutting down on unnecessary and often costly paperwork. In this bill, we also offer local businesses the flexibility to tailor retirement plans to best fit the needs of their workers, not to the needs of Washington.”
The bill includes many provisions designed to facilitate and enhance retirement savings. These changes have bipartisan support and are helpful for workers who desire to save for retirement.
- Traditional IRA Contributions – Individuals over age 70½ with earned income may continue to make contributions each year. These IRA contributions may enable seniors to grow retirement accounts during their 70’s and 80’s.
- Required Minimum Distribution (RMD) Age – For individuals who turn 70½ after December 31, 2019, the RMD age of 70½ is increased to age 72. Those who reach age 70½ during 2019 must start their RMDs.
- Part Time Workers – Those individuals who work at least 500 hours per year for three years will have the opportunity to participate in qualified retirement plans.
- Retirement Plan Annuities – The rules are generally expanded to permit more qualified retirement plans to offer annuity payout options.
- Retirement Benefit Disclosure – Retirement plan administrators are now required to offer an expanded disclosure of future retirement benefits to participants.
- Stretch Distribution Reduced – After 2019, inherited IRAs for nonspouse beneficiaries will no longer be distributed over life expectancy. Instead, the IRAs and other qualified plans of decedents must be paid out over a maximum term of ten years. There are exceptions for recipients with disabilities, minors and individuals within 10 years of the age of the IRA owner.
The Senate bill had strong bipartisan support. Provisions of the SECURE Act generally take effect on January 1, 2020. While the age for RMDs from IRAs increases to 72, the qualified charitable distribution (QCD) age remains at 70½. IRA owners over age 70½ may transfer up to $100,000 each year to qualified charities. This transfer may fulfill part or all of an RMD.
Dramatic Increase in IRAs to Testamentary Unitrusts
The SECURE Act reduces future taxes for IRA owners by increasing the age for required minimum distributions from 70½ to 72. However, to pay for the cost of this tax reduction, the taxes paid by future IRA beneficiaries (typically children) will increase.
When a single person or surviving spouse passes away, the IRA is transferred to one or more designated beneficiaries. If there is a charitable beneficiary, that portion of the IRA is normally distributed in full to the nonprofit. However, distributions to children, nephews, nieces and other family members may be made over a term of years.
For individuals who passed away in 2019 and before, an IRA beneficiary was able to “stretch” the IRA payout over his or her life expectancy. Assume mother Mary owned a traditional IRA and passed away in 2019 at age 90. She designated daughter Susan (age 60) as her IRA beneficiary. Susan could elect to take distributions over her life expectancy. For a child Susan's age, the potential distribution period was between age 60 and age 87. By “stretching” the traditional IRA payout, Susan could reduce her income tax and benefit from tax-free growth for many years.
However, if Mary passes away in 2020, Susan must take all distributions within ten years. She can wait and take the full payout in the tenth year, but that will greatly increase the tax rate paid on the IRA. Most children will choose to take partial payouts each year for the ten year period. With a ten-year payout, the income taxes paid by Susan will be substantially higher than with the previously allowed “stretch” plan.
What plan could replace the 2019 “stretch” IRA distribution? Could a plan combine the tax-saving benefits of a stretch IRA with a term-of-years or life payout to children or other heirs? Could this plan also have the tax-free growth benefit of a stretch IRA?
While it sounds too good to be true, the IRA to testamentary unitrust plan includes all of these benefits. A single person or surviving spouse may create an unfunded lifetime unitrust or testamentary unitrust in a will or living trust. The IRA owner will designate the trustee of that trust as beneficiary of the IRA. When the IRA owner passes away, the unitrust is funded with the traditional IRA. Because the unitrust is tax-exempt, there is a bypass of the income tax on the traditional IRA and any future growth.
The full IRA proceeds are invested and earn new taxable income for the unitrust recipients. After all payments are completed, the unitrust principal is transferred to qualified charities. The children or other heirs benefit from substantial income, with no reduction in trust corpus earning power due to taxes. Because there is no tax paid on the IRA distribution to the unitrust or the trust growth, the charitable distribution upon termination of the trust is maximized.
Unitrusts may be drafted for a term of one to 20 years, a life or lives. The trust must pay 5% or more to children or heirs, with the remainder to qualified nonprofits. After the unitrust is created, the IRA beneficiary designation must be updated to select the trustee of the unitrust as the recipient. The practical methods for completing the trust and beneficiary designation are described in GiftLaw Pro Ch. 4.6.5.
There are thousands of parents who have created IRA or other qualified plan “conduit trusts.” These are designed to protect children and permit distribution over the stretch period. These parents and their professional advisors will now consider testamentary unitrusts. While most CFPs recommend a 4% payout rate for general long-term retirement plans, the 5% unitrust payout option will be acceptable for most parents. During 2020, there will be a boom market in planning for qualified retirement plans to testamentary unitrusts.
Nonprofits Welcome Repeal of the Parking Tax
The Tax Cuts and Jobs Act (TCJA) created a Sec. 512(a)(7) tax on nonprofits that provide parking for employees. The provision would require payment of unrelated business income tax (UBIT) if the value exceeded $1,000 per year.
Thousands of small and midsized nonprofits with modest budgets were stunned by passage of this tax. These nonprofits would be required to value their transportation and parking benefits and potentially file IRS Form 990-T and pay tax. The administrative burden and cost was extreme for many small and midsized nonprofits. Independent Sector, a coalition of nonprofits, estimated a cost of $12,000 per year for most charities to comply with the administrative fees and parking tax.
By a bipartisan vote of 71 to 23 on December 19, 2019, the Senate passed an appropriations bill that included the repeal of the Sec. 512(a)(7) tax. The President signed the bill on December 20.
Nonprofit leaders expressed appreciation for the repeal of the parking tax. David L. Thompson of the National Council of Nonprofits noted, “It is regrettable, though, that it took so long to repeal a tax that never made sense to anyone and that forced thousands of frontline nonprofits to divert two years of attention and millions of dollars away from their missions.”
Dan Cardinali of Independent Sector stated, “We are grateful for the bipartisan consensus that this tax was a mistake, and that it would be repealed retroactively. Retroactive repeal cannot undo the considerable administrative costs already borne by our sector and it cannot retroactively restore meals, shelter, or pastoral services to those who have been denied them. However, it can provide some partial financial restitution to those who have paid the tax and allow charities to restore their focus to where it belongs: their mission.”
Applicable Federal Rate of 2.0% for January -- Rev. Rul. 2020-1; 2020-3 IRB 1 (17 Dec 2019)
The IRS has announced the Applicable Federal Rate (AFR) for January of 2020. The AFR under Section 7520 for the month of January is 2.0%. The rates for December of 2.0% or November of 2.0% also may be used. The highest AFR is beneficial for charitable deductions of remainder interests. The lowest AFR is best for lead trusts and life estate reserved agreements. With a gift annuity, if the annuitant desires greater tax-free payments the lowest AFR is preferable. During 2020, pooled income funds in existence less than three tax years must use a 2.2% deemed rate of return.