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The Secure Act And Your Retirement Accounts

By Randy Coleman | Jan 12, 2020 | Beneficiary designations, estate planning, estate planning lawyer, income taxes, individual retirement accounts, IRAs, retirement accounts, retirement planning, revocable living trusts, ROTH IRAs, stand alone retirement account trusts | 0 comments

Why You Need To Act Now To Protect 1/3 Of Your Retirement Accounts And Avoid The Negative Impact Of The Secure Act!

The setting every community up for retirement enhancement act (from now on the “Secure Act”) became effective on January 1, 2020. You can’t change that! The act provides many benefits for those who are accumulating assets for retirement. To provide a source to pay for the increase in the retirement assets and the loss of tax revenues that will result, the Secure Act also will collect a total of $15.7 billion of additional income taxes from existing retirement account holders. Those income taxes will be paid from existing retirement accounts when the account owners die over the next 10 years. That income tax burden will be paid by your children and grandchildren – unless you act now – before your death. You can change that! First, let’s cover a couple of the “good” news provisions of the Secure Act for those at or nearing retirement.

Traditional IRA Contributions No Longer Prohibited After Age 70 1/2

The Secure Act eliminates the prohibition on contributions to Traditional IRAs after age 70 1/2. Now, beginning in 2020, even though you have reached 70 1/2 years of age, you can continue to make contributions to traditional IRAs. Individuals of any age are now allowed to contribute to a traditional IRA. The only requirement is that you have “compensation” in the form of earned income from either wages or self-employment – or that your spouse has income from wages or self-employment. So, you must still be working to make such contributions.

Required Minimum Distributions Begin At 72 Rather Than 70 1/2

This provision allows you to wait until you turn 72 to be required to start taking distributions from your retirement account. You will be able to delay your distribution until April 1 of the year after you reach age 72. For example, if you turn 72 on March 1, 2021, you can wait until April 1, 2022, to take your first Required Minimum Distribution (RMD). Those who turn 70 1/2 in the second half of 2019 must begin their RMDs in 2020. Certainly, this is not a significant change, but it does allow an additional year to year and a half of the tax-deferred growth of your retirement account. For those with several hundred thousand or a million-plus in their retirement accounts, the additional tax-deferred growth can be significant. There are many other provisions of the Secure Act, that we will discuss in upcoming articles for this blog, that mostly deal with improving the environment for establishing and growing retirement accounts for those presently employed and building their retirement wealth. For those who already are retired, or nearing retirement, here’s the bad news from the Secure Act!

The Secure Act Is Designed To Collect $15.7 Billion Of Income Taxes From Your Children And Grandchildren If You Don’t Act Now!

Before January 1, 2020, when someone died, their retirement account (including 401(k) plans, 403(b) plans, 457 plans, IRAs, SIMPLE IRAs, SEP IRAs, Defined Contribution Plans), could be distributed over the lifetime of the designated beneficiaries. The distribution of the account over the beneficiary’s lifetime is a “stretch” distribution plan – stretching retirement plan distributions over the lifetime of the beneficiaries. There were two major benefits of such a stretch distribution plan. First, by taking smaller annual distributions over the beneficiary’s lifetime, the amount of the distribution usually did not trigger higher taxes by moving the beneficiary’s marginal tax rate to higher income tax brackets. The smaller annual distribution was subject to a lower marginal tax bracket. Income taxes were minimized. The second major benefit of the stretch distribution plan was that the remaining balance of the retirement plan continued to grow tax-deferred. The remaining balance grew faster. So, the retirement account continued to replenish itself – without paying income taxes on its growth – until it was distributed out to the beneficiary, perhaps years into the future.

What Is The 10-Year Rule?

The Secure Act changed all that. No more lifetime stretch for retirement accounts – with a few minor exceptions (which we’ll talk about later). After the death of the account owner, the remaining balance of your retirement account now must be distributed in full within 10 years. MAX! The “10-year rule” requires the distribution of all amounts in a retirement account to the designated beneficiary within 10 years of the date of death of the account owner. (Again, with certain minor exceptions that will be discussed later in this article.) The Secure Act is the most significant change for income taxation of retirement accounts in decades. It reverses both advantages previously provided by the lifetime stretch for distributions from retirement accounts. Beneficiaries (your family members other than your spouse – and may be even your spouse) will be subject to much higher marginal brackets, and the tax-deferred growth of the retirement account will be eliminated 10 years after your death. The result of the Secure Act for those with significant retirement accounts is a reduction of the wealth you can transfer to your children and grandchildren, but with proactive planning, you can avoid or at least mitigate its results. Very importantly, the larger your retirement account, the larger the negative impact from the elimination of the lifetime stretch! There will be tens of thousands of dollars for income taxes that did not exist under the “old” law. Some will be paying hundreds of thousands of dollars for income taxes! There will be some who may pay millions of dollars of income taxes because of the Secure Act. You can’t change that! Without proactively dealing with the effect of the Secure Act – before you die! You can proactively implement various planning techniques to lessen or remove the impact of the increased income taxes that will otherwise be paid by your family. You have options that can offset the reduction of wealth otherwise to be suffered by your children and grandchildren.

Why You Need To Act Now To Reduce The Impact Of The Secure Act

The Conduit Trust Disaster

Over the past couple of decades, estate planning attorneys have placed in the wills and trusts they drafted a “conduit trust.” The conduit trust is designed specifically to take advantage of the lifetime stretch for retirement accounts. Conduit trust language was one way to establish a trust to be a “qualified beneficiary” or “designated beneficiary” of a retirement plan for IRS purposes. Such a designation allowed either revocable living trusts or testamentary trusts in wills, to be a designated beneficiary for retirement plans. The conduit trust doesn’t work very well with the 10-year rule. The conduit trust, by its intended design, will force the required minimum distribution of the retirement account to be distributed to the beneficiary each year when received from the retirement account custodian. That means the first nine years after the death of the account owner, the custodian of the account will distribute to the trust the required minimum distribution. The RMD must be distributed to the beneficiaries that year. At year 10, the balance of the retirement account value will be distributed lump sum to the trustee of the conduit trust. The trustee must then distribute it to the beneficiary. The entire balance will be subject to income taxes, most likely at the highest income tax bracket (as much as 37% under current tax law and likely to rise from there because the highest marginal brackets are the lowest levels of the past decade or more). The trust beneficiary will then have possession of the entire balance of the account to handle as desired. So, there will be no protection for the beneficiary from creditors, divorcing spouses, temporary or permanent incapacity, or from the beneficiary’s lack of financial responsibility.

The Income Tax Burden The Secure Act Imposes On The Conduit Trust

We have prepared three examples to illustrate the impact of the Secure Act. Each of the three examples is based on the following assumptions: The retirement account assets of $1,000,000 will be invested to earn 7% annually. An income tax rate of 24% is assumed for the distributions to the beneficiary during the initial 10-year period. A 37% income tax bracket is assumed for the distribution upon the end of the 10-year period. The charts use an 11-year period because the distributions are not required to be started until April 15 of the year following the death of the account owner.

Example 1 – The Pre-Secure Act Lifetime Stretch

Account Balance Earnings Account Value Life Expectancy Pre-Tax Distribution After Tax Distribution
$1,000,000 $70,000 $1,070,000 43.60 $24,541 $18,651
$1,045,459 $73,182 $1,118,641 42.70 $26,198 $19,910
$1,092,443 $76,471 $1,168,914 41.70 $28,032 $21,204
$1,140,883 $79,862 $1,220,744 40.70 $29,994 $22,795
$1,190,751 $83,353 $1,274,103 39.80 $32,013 $24,330
$1,242,091 $86,946 $1,329,037 38.80 $34,354 $26,033
$1,294,783 $90,635 $1,385,418 37.90 $36,555 $27,781
$1,348,864 $94,420 $1,443,284 37.00 $39,008 $29,646
$1,404,276 $98,299 $1,502,276 36.00 $41,738 $31,721
$1,460,837 $102,259 $1,563,096 35.10 $44,533 $33,845

Showing 1 to 10 of 12 entries

Example 1 shows the distributions as provided under prior law, which allowed the lifetime stretch of the IRA. At the end of the initial 10-year term after the death of the account owner, the beneficiary has received $292,124.33 of after-tax income and the remaining balance of the retirement account is $1,624,863.04. The balance will continue to generate income for each year of the beneficiary’s lifetime on a tax-deferred basis. Only the amount actually distributed is subject to income taxes, so the marginal tax bracket remains low.

Example 2 – The 10-Year Rule Applied To The Same Retirement Account – Annual Distributions For 10 Years

Account Balance Growth of Account End of Year Balance Distribution Years Remaining Distribution to Beneficiary After Tax Distribution to Beneficiary
$1,000,000 $70,000 $1,070,000 0 0 0
$1,070,000 $74,900 $1,144,900 10.0 $114,490 $87,012
$1,030,410 $72,129 $1,102,538 9.0 $122,504 $93,103
$980,034 $68,602 $1,048,636 8.0 $131,080 $99,621
$917,557 $64,229 $981,786 7.0 $140,255 $106,593
$841,531 $58,907 $900,438 6.0 $150,073 $114,052
$750,365 $52,526 $802,891 5.0 $160,578 $122,039
$642,313 $44,962 $687,274 4.0 $171,819 $130,582
$515,456 $36,082 $551,538 3.0 $183,846 $139,723
$367,692 $25,738 $393,430 2.0 $196,715 $149,503

Showing 1 to 10 of 12 entries

Example 2 shows the effect of the Secure Act if the beneficiary elects to take the proportionate share of the retirement account so that the balance is distributed annually pursuant to the 10-year rule. It shows that the beneficiary receives a total of $1,581,845.13 of distributions, which after being taxed at a 24% income tax bracket, results in a net after-tax total distribution of $1,202,202.30. Those funds can now be reinvested, or otherwise controlled by the beneficiary – and there is no protection for the beneficiary from creditors, divorcing spouses, incapacity or the beneficiary’s lack of financial acumen or financial irresponsibility. If the funds remain in an accumulation trust to provide that protection, the income will be taxed at 37% beginning at $12,950 of income annually.

Example 3 – The 10-Year Rule Applied To The Same Retirement Account – Full Account Distribution In Year 10

Account Balance Growth Account Balance After Growth Pre-Tax Distribution After-Tax Distribution
$1,000,000 $70,000 $1,070,000    
$1,070,000 $74,900 $1,144,900    
$1,144,900 $80,143 $1,225,043    
$1,225,043 $85,753 $1,310,706    
$1,310,796 $91,756 $1,402,552    
$1,402,552 $98,179 $1,500,730    
$1,500,730 $105,051 $1,605,781    
$1,605,781 $112,405 $1,718,186    
$1,718,186 $120,273 $1,838,459    
$1,838,459 $128,692 $1,967,151    

Showing 1 to 10 of 11 entries

Example 3 shows the result of retaining the balance in the retirement account until the tenth year after the account owner’s death. There are no distributions until the end of the tenth year. As you can see, the net after-tax distribution is $1,326,056.73. Again, the distribution will be controlled by the beneficiary, with no protection from creditors, divorcing spouses, incapacity, or the beneficiary’s irresponsibility or immaturity. The impact of the Secure Act is clear. Upon the death of the account owner before 2020, the retirement account provides a lifetime of income to the beneficiary, at lower income tax brackets, and with substantial assets growing tax-deferred. The assets are maintained in trust for the protection of the beneficiary. After the Secure Act, funds are distributed over a short period and if a conduit trust is used there is no protection for the beneficiary from creditors, divorcing spouses, incapacity or the beneficiary’s immaturity or financial irresponsibility. If the funds remain in an accumulation trust, they will be subject to much higher tax brackets based on the earnings each year, and the trust tax brackets that reach a 37% income tax rate when at $12,950 of trust income annually.

How Do I Avoid The Conduit Trust Disaster For My Family?

You can avoid the conduit trust disaster by immediately revising your existing estate planning documents to eliminate the conduit trust (unless your beneficiary is one of the very few who can continue to take advantage of the lifetime stretch for distributions from a retirement account). Eliminating the conduit trust will allow additional flexibility and should result in a reduction of the applicable tax bracket for the beneficiary’s distributions, which will reduce some of the additional income taxes.

I Am Concerned About Protecting My Beneficiary’s Access To All My Retirement Account Balances Immediately – What Can I Do?

You might consider an “accumulation trust.” The accumulation trust (a “discretionary” trust) allows you to designate the trust as the beneficiary of your retirement account. The trustee has the discretion to determine when it is appropriate to distribute the funds from the retirement account to your beneficiaries. The trustee can exercise discretion in making distributions so that your beneficiaries can be protected (under Florida law) if they are experiencing creditor problems, divorces, temporary or permanent incapacity, substance abuse issues, or are just financially immature or irresponsible. The accumulation trust has two major disadvantages. When the retirement account makes distributions to the accumulation trust, the distributions are subject to income taxes. When beneficiaries receive income distributions, each beneficiary includes the income on their tax return and incurs income tax based on their tax rate. Each beneficiary’s income tax rate is determined by the marginal tax bracket that applies to their tax return (Form 1040). The accumulation trust will have only 10 years to spread out the distributions from the inherited retirement account. That’s because of the Secure Act’s newly effective 10-year rule. When the trustee of the accumulation trust determines not to distribute income to a particular beneficiary, perhaps because of a pending divorce, temporary incapacity or financial irresponsibility, then the trust must pay income tax for the amount received from the retirement account. The income tax brackets for an accumulation trust are very condensed. The maximum income tax bracket (currently 37%) applies after only $12,950 of trust income. An individual doesn’t reach the maximum tax bracket of 37% until he or she has $518,401 of income (for 2020). A married couple filing jointly doesn’t hit the 37% bracket until $622,501 of annual income. The tax impact for the income “trapped” in the trust is significant. The result is less trust principal remaining in the trust to grow for the beneficiary. You may not want your beneficiary to burn through their inheritance from you, which is what creates the desire for the trust. Most people are even more unlikely to want the IRS to burn through the inheritance with 37% income taxes for all distributions over $12,950 in 1 year. The prior discussion assumes the IRS will continue to allow the use of accumulation trusts. The Secure Act provides that accumulation trusts are specifically allowed where the trust beneficiary is disabled or “chronically ill.” However, the Secure Act is silent regarding whether accumulation trusts will continue to be eligible designated beneficiaries where the beneficiary is not disabled or chronically ill (such as a spouse, minor child or a beneficiary within 10 years of the deceased retirement account owner’s age – all of whom the Secure Act defines as designated beneficiaries under the new law).

Are There Any Exceptions To The 10-Year Rule?

There are a few minor exceptions and one major exception to the 10-year rule.

Spousal Rollover

The major exception is the surviving spouse. A surviving spouse can take a spousal rollover and treat the retirement account of the deceased spouse as their own. The surviving spouse can then take distributions from the retirement account over his or her lifetime. The surviving spouse has the advantage of applying the applicable, usually lower, tax bracket and continuing the tax-deferred growth of the retirement account based on his or her life expectancy. Beware the “spousal rollover trap.” This estate planning problem arises if the surviving spouse has a short life expectancy or dies prematurely. It also applies where the surviving spouse is already in a high tax bracket. In the former case, the 10-Year Rule will apply to the next level of beneficiaries upon the passing of the surviving spouse. If the surviving spouse has health issues or a short life expectancy, additional planning options may be desirable to avoid the application of the 10-year rule. If the surviving spouse is already in a high tax bracket, then the planning options should be explored for options that can reduce the income tax burden.

Other Exceptions To The 10-Year Rule

There are exceptions to the 10-year rule for beneficiaries who are minors at the death of the account holder (or surviving spouse), those who are disabled, and those who are chronically ill, as defined by the applicable statute. Certain other “Eligible Designated Beneficiaries” are not subject to the 10-year rule. Those include beneficiaries (1) Who are disabled (as defined by Internal Revenue Code Section 72(m))7), (2) Those that are “chronically ill” as defined by IRC Section 7702B(c)(2), (3) Individuals who are not more than 10 years younger than the deceased account owner, and (4) Certain minor children of the deceased account owner, but only until they reach the age of majority (21 under Federal Law).

If I Can’t Use A Conduit Trust And The Accumulation Trust Is Too Costly, What Can I Do?

There are several other estate planning options available to deal with the increased income taxes caused by the Secure Act. Some of the options manage your income tax brackets. Some options spread out retirement account distributions to create a lifetime stretch effect. Other options can replace the wealth otherwise accumulated through the lifetime of income tax deferral that was the significant advantage of lifetime stretch allowed by the previous law. The options best for you will depend on many factors specific to your circumstances. Here’s a list of possible options for you to consider:

  1. Irrevocable sprinkle and spray trusts
  2. Effective bracket management
  3. Roth conversions
  4. Fiscal year planning
  5. Spousal rollovers – after considering the potential spousal rollover trap
  6. IRAs to charitable remainder trusts
  7. IRA trusts for state income tax savings
  8. Life insurance
  9. Qualified charitable contributions
  10. Naming charities as direct beneficiaries

These options, and others, will be topics for further discussion in future posts to this blog.


The most important message we hope you have received from this post is that you must be proactive with modifying your existing estate plan. If your current estate plan includes a conduit trust built into your will or your revocable living trust – and you need to move quickly to have it reviewed and revised. Except for those few exceptions to the 10-year rule, conduit trusts will cost your beneficiaries substantial income taxes. You should review your will or trust to determine if your estate plan has provisions for a conduit trust. A conduit trust will contain language about your trust being a beneficiary of your retirement plans and will include a provision for “required minimum distributions.” If you have that language in your estate planning documents, you should immediately begin working with your estate planning lawyer to modify your estate plan. Otherwise, your children and grandchildren will pay unnecessary income taxes after your death. If you would like to have a free review of your estate planning documents to determine if your documents contain a conduit trust that should be eliminated or other provisions that may be impacted by the Secure Act, or any other recent legislation, let us know. We are offering a FREE 30-minute consultation so that we can review your current estate planning documents to determine whether your plan should be modified to reduce or eliminate the additional income taxes that will be incurred if the changes are not made. You can call our office in Jacksonville at (904) 688-3324, our office in Palm Coast at (386) 585-7004, or toll-free at (866) 510-9099, to schedule your free 30-minute consultation.