Congress has provided a Christmas gift to many Americans who are struggling to save enough money for a comfortable retirement. The week before Christmas, Congress passed a spending bill that includes the most significant changes to retirement plans in more than a decade.
These changes were included in the SECURE Act that was passed by the House of Representatives last spring. However, this legislation did not make it through the Senate, so its supporters added it to the spending bill to get it passed before the end of this year.
Changes Affecting 401(k) Plans
One of the biggest changes makes it easier for employers to offer annuities as an investment option in 401(k) plans. Annuities are similar to pensions because they provide participants with a guaranteed stream of lifetime income. Many retirees prefer this option because it helps them plan their retirement finances in such a way that they reduce the risk of running out of money before they die.
Another change makes it easier for part-time employees to participate in 401(k) plans sponsored by their employer. Starting in 2024, part-time employees who have worked more than 500 hours a year for at least three consecutive years must be allowed to participate in their employer’s 401(k) plan. However, employers will not be required to match these part-time employees’ contributions.
In addition, the legislation makes it easier for small firms to offer their employees access to a 401(k) plan. Sometimes referred to as multiple-employer plans, these allow small businesses to join together in offering a plan and share administrative expenses. By banding together, businesses may be able to use their scale to negotiate lower administrative and investment fees, further lowering plan costs.
Helping Older Workers Continue Saving
Another beneficial provision of the legislation is the raising of the age when required minimum distributions (RMDs) must begin from traditional IRAs and 401(k)s from 70½ to 72. This will enable retirees who don’t yet need to tap into their retirement account to meet everyday living expenses to keep their money in a tax-deferred account for an additional year and a half, which could help boost long-term returns.
Also, if an individual is still working and earning income, the legislation removes the age cap (currently 70½ for making IRA contributions. Both of these changes are designed to help the growing number of Americans in their 70s who are continuing to work increase the size of their retirement nest eggs. This number has nearly doubled over the past three decades, with almost 20 percent of 70- to 74-year-olds currently working, compared to just 11 percent in 1992, according to the Bureau of Labor Statistics.
In addition, the legislation allows employers to auto-enroll employees in a 401(k) plan at a rate of six percent of their salary instead of the current three percent, and to automatically bump up their savings rates to 15 percent of their annual compensation, up from 10 percent currently. This change is designed to help encourage employees to put more money toward their retirement savings.
Finally, the legislation permits tax-free withdrawals of up to $10,000 from 529 college savings accounts to repay student loans. And penalty-free distributions of up to $5,000 from retirement accounts are now allowed during the first year after the birth or adoption of a child to help cover child-care expenses. However, income taxes still must be paid on these withdrawals.
Eliminating Stretch IRAs
There is one provision of the legislation that is not beneficial to retirees. Currently, beneficiaries who inherit tax-advantaged retirement accounts can spread out withdrawals from these accounts over the course of their lifetime. Known as a “stretch IRA,” this allows recipients to pay taxes on distributions over a long period of time if they choose.
The legislation effectively eliminates stretch IRAs by requiring most beneficiaries who inherit money from anyone who dies after December 31, 2019, to withdraw the funds and pay taxes on the distributions within a 10-year period. It does exempt some beneficiaries, including surviving spouses.
Give us a call if you have any questions about these provisions and how they might affect your retirement plans.