The SECURE Act’s 10-Year Rule

By Modern Wealth Management

February 27, 2020

As you may be aware by now, the SECURE Act completely changed the rules for the beneficiaries of retirement accounts. Possibly the most significant change is the new 10-year payout rule, which essentially eliminated the ability to stretch the IRA over a beneficiary’s lifetime. Here are ten things you need to know about the new 10-year rule. Here are the ten most important things you need to know.

1. If the account owner dies in 2020 or later, the 10-year rule will apply to almost all non-spouse beneficiaries.

The unfortunate reality is that the SECURE Act ensures that very few non-spouse beneficiaries will escape the 10-year rule. While the new law does carve out some exceptions, most beneficiaries who used to be able to stretch out distributions over their lifetime will end up with the 10-year rule. Even those who qualify for an exception, known as “Eligible Designated Beneficiaries,” won’t likely be able to stretch the IRA for more than 20 years.

2. Fortunately, spousal beneficiaries are not subject to the 10-year rule.

Since law requires it in employer plans, unless the spouse waives their right in writing, most people name their spouse as the beneficiary of their retirement account. Under the rules of the new law, spouse beneficiaries are saved from the 10-year rule and can continue to use the stretch.

3. The 10-year rule requires that the account be emptied by December 31st of the tenth year following the year of death.

Though there’s no firm guidance on this as to whether it’s ten years from the date of death or till the end of the 10th year following death, we expect the 10-year rule to work like the old 5-year rule with an end-of-year deadline.

4. Beneficiaries of retirement accounts whose owner died before the implementation of the 10-year rule on 1-1-2020 are not subject to the 10-year rule. However, the 10-year rule will apply to successor beneficiaries.

Just like any other non-spouse beneficiary, they must empty the account within ten years instead of continuing the stretch over the original beneficiary’s life expectancy.

Nothing needs to be taken out of the inherited account until the end of the tenth year following the year of death. While it may not make sense to wait the full ten years to take the money out, in some cases, it may cause a massive difference in the amount of taxes owed on the withdrawal.

6. Though they are considered one of the Eligible Designated Beneficiaries under the Secure Act, minor children of the account owner will ultimately be subject to the 10-year rule.

While small children of the account owner can get the stretch for a while, it won’t last forever. Once they reach the age of majority under state law, or finish school (but no later than age 26), the 10-year rule will kick in. That means that the longest any minor child will be able to wait to empty the retirement account will be to their age of 36.

7. In another Estate Planning twist, most trusts…

…like other non-spouse beneficiaries, will be subject to the 10-year rule. This means updating your Estate Plan should be high on your list of things to do in the next 12 months. 

8. Like most other non-spouse beneficiaries, grandchildren who are retirement account beneficiaries will mostly be subject to the 10-year rule too.

Under the old rules, many retirement account owners would name a grandchild as an IRA beneficiary to get the maximum stretch possible. That strategy is off the table now. Unless a grandchild is chronically ill or disabled, the 10-year rule will apply.

9. Roth IRA beneficiaries are also subject to the 10-year rule.

The SECURE Act requires Roth IRA beneficiaries to use the same set of rules as traditional IRA beneficiaries, resulting in the rule applying to most Roth IRA beneficiaries. The only good news here is that the Roth dollars are distribute tax-free. For now.

10. Though this is number 10 on the list, it may be the most critical. Failure to comply with the 10-year rule will result in a huge penalty.

If a beneficiary does not empty the account by the end of the tenth year following the year of death, a 50% penalty will apply to any amount not taken from the inherited account. This is how entire inheritances are going to wind up in the hands of the government. Imagine if a beneficiary inherits a million-dollar IRA, takes no distributions from it for the next ten years, and then subsequently misses the 10-year deadline to empty the account.

The penalty…$500,000. That penalty, since it’s probably going to come out of the IRA, is taxed as ordinary income that the beneficiary must pay taxes on, even though they sent it to the government. And, they still have to take out the remaining money in the account and pay taxes on that as well. In that case, the beneficiary would have owed at least $350,000 in federal taxes, plus the $500,000 penalty, plus roughly $50,000 dollars in state taxes. This means that of the million-dollar inheritance, the beneficiary gets to keep a paltry $100,000, while $900,000 goes to the government. The moral of this story is, don’t miss the 10-year deadline.

If you have questions about your IRA as it pertains to the new rules – get in touch with us. Schedule a complimentary consultation below or give us a call at 913-393-1000 and we will be in touch to address your questions.

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The views expressed represent the opinion of Modern Wealth Management an SEC Registered Investment Advisor. Information provided is for illustrative purposes only and does not constitute investment, tax, or legal advice. Modern Wealth Management does not accept any liability for the use of the information discussed. Consult with a qualified financial, legal, or tax professional prior to taking any action.