What Is the SECURE Act and How Does It Affect You?

With the recent passage of the Setting Every Community Up for Retirement Enhancement (SECURE) Act, the rules around retirement planning have changed. The new law, which went into effect on Jan. 1, 2020, affects questions like who is eligible to contribute to retirement accounts and when withdrawals are required for inherited individual retirement accounts (IRAs).

So what is the SECURE Act and how can it impact your retirement planning? Here's what you need to know.

What Is the SECURE Act?

The SECURE Act introduces new rules that affect how people save for retirement, how and when they can take distributions from their retirement accounts and when the government can begin collecting tax on those retirement savings. The law changes the parameters around required minimum distributions, age requirements for IRA contributions, withdrawals for inherited IRAs, and early-withdrawal penalties for certain groups, as outlined below.

Required Minimum Distributions

The SECURE Act increases the age for required minimum distributions (RMDs) from age 70.5 to age 72. The RMD is the amount that an account holder is required to withdraw from their IRA or 401(k) every year. With the new changes, account holders can now wait longer to begin withdrawing their retirement savings, which can give the money more time to grow and allow seniors to delay paying taxes on these withdrawals.

Age Restrictions for IRA Contributions

Previously, you could only contribute to an IRA until age 70.5. As of Jan. 1, however, IRAs no longer have this age restriction, so you can continue to contribute as long as you're still working. This could allow people who started saving for retirement later in life to catch up and contribute more to their retirement plans.

Withdrawals for Inherited IRAs

The SECURE Act also affects estate planning. Prior to 2020, inherited IRA beneficiaries either had to withdraw all the money from these accounts within five years of the account holder's death or take RMDs based on their life expectancy. The latter rule allowed younger beneficiaries to extend withdrawals over several years or even decades.

However, non-spousal beneficiaries of inherited IRAs now have up to 10 years after the original account holder's death to withdraw all the money from the IRA. If they don't, they'll face a 50% penalty tax on any money left in the account.

Early Withdrawals for New Parents

Previously, early withdrawals from retirement accounts were subject to a 10% penalty on top of the income tax on that money. However, the SECURE Act now allows new parents who have either given birth to or adopted a child to take a penalty-free withdrawal of up to $5,000 from their retirement plan within a year of this event. Although this withdrawal will be penalty-free, it will increase your overall taxable income for the year in which you take this distribution, which means you could pay more in income taxes when you file your annual tax return.

Better Retirement Planning for Part-Time Workers

If you work between 500 and 1,000 hours for an employer over a 12-month period for three straight years, you will be eligible to contribute to a 401(k) plan as long as you're at least 21 years old. If you've cut back your work hours for health reasons or to take care of an aging family member or a young child, you now have more options to save for retirement.

Even if you've been contributing to an IRA, having the option to save with a 401(k) plan means you could take advantage of more tax deductions for your retirement contributions while also building your retirement savings.

Planning Your Retirement After the SECURE Act

As you save and plan for your retirement, it's important to understand how these new rules may affect you. In some cases, you may be able to save more and over longer periods, while in other cases you may have to withdraw money earlier than you intended. It all depends on your specific circumstances.

Each of these new rules comes with certain tax implications, so you may need to seek the help of a financial professional to navigate these changes and ensure that you're making the best decisions around saving for retirement.

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