Understanding the SECURE Act 2.0: How It Affects Your Retirement and Savings Plans

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Located in the 4,100 page spending bill passed by Congress on December 29, 2022, you will find nearly 400 pages devoted to the second version of the Setting Every Community Up for Retirement Enhancement Act (SECURE Act 2.0).

To save you a pile of time, we’ve curated those nearly 400 pages devoted to the SECURE Act 2.0 into what we feel are the most likely laws to impact clients. While this law is effective immediately, it will take years for some of it to be phased in. So to simplify, we’ve organized this by year in which certain areas of the bill should go into effect.

There really are some interesting changes*. Buckle up!

2023:

RMD Changes:

In 1986 the Tax Reform Act set in motion a yearly Required Minimum Distribution (RMD) from retirement accounts. It stated that RMDs were required to begin in the year an individual turned age 70½. In 2019, the first SECURE Act changed the age to 72. With the passage of the SECURE Act 2.0, the ages have changed once again. But scaled in over time. The new age to start RMDs is age 73 through 2032. And then starting in the year 2033 the RMD age will be pushed back further to age 75.

Note: Changes to the RMD age made by SECURE Act 2.0 do not impact the age at which Qualified Charitable Distributions (QCDs) can be made. Individuals can still make QCDs starting at age 70 1/2.

Reduced Penalties for Missing RMD:

Until the passage of this bill, if you failed to take your RMD you’d be assessed a 50% penalty for the amount you failed to take out in a given year. Ouch. The SECURE Act 2.0 decreases the penalty for missed RMDs from 50% to 25% of the shortfall, and if the mistake is rectified in a timely manner during the correction window, the penalty is reduced to 10%. What is a “Correction Window”? Great question, glad you asked!

The “Correction Window” is defined as beginning on the date that the tax penalty is imposed and ends upon the earliest of the following dates:

When the Notice of Deficiency is mailed to the taxpayer.
When the tax is assessed by the IRS.
The last day of the second tax year after the tax is imposed.

Although these changes do not keep a taxpayer from seeking to have the penalty abolished altogether, for smaller missed distributions the potential for a reduced penalty down to 10% may give some individuals an incentive simply to pay the penalty and move on with life versus showing up on bended knee to the IRS asking for forgiveness – which seems to be in short supply. Bottom line, don’t miss your RMD and this isn’t an issue!

Roth SEP and Simple IRAs Allowed:

SECURE Act 2.0 authorizes the creation of both SIMPLE Roth IRAs, as well as SEP Roth IRAs, for 2023 and beyond. Previously, SIMPLE and SEP plans could only include pre-tax funds.

Employer Match Into a Roth:

Until SECURE Act 2.0, when an employer matched an employee’s retirement savings (for example, in a 401k), those matches were made with pre-tax dollars. However, now employers will be permitted to deposit matching and/or nonelective contributions to employees’ designated Roth accounts (e.g., Roth accounts in 401(k) and 403(b) plans). Such amounts will be included in the employee’s income in the year of contribution and must be nonforfeitable (i.e., not subject to a vesting schedule).

While the SECURE Act 2.0 authorizes such contributions immediately, employers and plan administrators will need time to update systems, paperwork, and procedures to accommodate the change. Bottom line, it’ll take some time before employers actually have the ability to execute on this for employees.

2024:

529 to Roth Transfers:

What are your options if you find yourself with extra money in a college savings 529 plan? SECURE Act 2.0 has an answer.

You can move those funds to a Roth IRA! But only under the following conditions:

The Roth IRA receiving the funds must be in the name of the beneficiary of the 529 plan;
The 529 plan must have been maintained for 15 years or longer.
Any contributions to the 529 plan within the last 5 years (and the earnings on those contributions) are ineligible to be moved to a Roth IRA.
The annual limit for how much can be moved from a 529 plan to a Roth IRA is the IRA contribution limit for the year, less any ‘regular’ traditional IRA or Roth IRA contributions that are made for the year (in other words, no doubling up with funds from outside the 529 plan).
The maximum amount that can be moved from a 529 plan to a Roth IRA during an individual’s lifetime is $35,000.

Roth catch-up contributions required for high-income earners:

If a participant is eligible for catch-up contributions and they made more than $145,000 in the previous year, those catch-up contributions must be contributed into the Roth component of the employer plan – thus making them taxable contributions. Up until SECURE Act 2.0, there was no income limit and the catch-up contributions were made on a pre-tax basis. This new rule applies to catch-up contributions for 401(k), 403(b), and governmental 457(b) plans, but not to catch-up contributions for IRAs, including SIMPLE IRAs.

QCD Amounts Changing (finally):

Let’s roll it back to 2006. In that year, the Pension Protection Act passed into law and with it the creation of Qualified Charitable Distributions (QCDs). QCDs have quickly become one the best ways for most individuals 70½ or older to satisfy their charitable intentions.

The rules for these distributions, for which no charitable deduction is received because the income is excluded from AGI to begin with are modified by SECURE Act 2.0 in the following 2 ways:

Maximum Annual QCD Amount Indexed For Inflation: When the QCD provision was first introduced more than 15 years ago, the maximum annual QCD amount was limited to $100,000. Since then, the maximum amount has remained the same. Beginning in 2024, however, the QCD limit will change for the first time ever as it will be linked to inflation; and
One-Time Opportunity To Use QCD To Fund A Split-Interest Entity: Beginning in 2023, taxpayers may take advantage of a one-time opportunity ($50,000 limit) to use a QCD to fund a Charitable Remainder UniTrust (CRUT), Charitable Remainder Annuity Trust (CRAT), or Charitable Gift Annuity (CGA). This might sound intriguing, but it’s not necessarily all it’s cracked up to be. If interested, your Wealth Manager can explain why.

IRA Catch-up Contributions Linked to Inflation:

After we all survived Y2K, the following year The Economic Growth and Tax Relief Reconciliation Act (EGTRA) was passed into law in 2001. And with its enactment, the creation of IRA catch-up contributions was created – effective for 2002 and future years. Although that law, for the first time, indexed the annual IRA contribution limits to inflation, the catch-up contribution limit was introduced as a flat $500 amount that was not indexed – likely due to legislator fatigue failing to craft another paragraph in the bill to address it.

As referenced earlier, in 2006 the Pension Protection Act also doubled the original IRA catch-up contribution limit to a flat $1,000 but still failed to adjust that cap for inflation in future years. Legislator fatigue turned into a full nap, as 15 years ago was the last time Congress raised the limit manually and as such, the IRA catch-up contribution limit remains at the same $1,000.

Now, SECURE Act 2.0 will finally allow the IRA catch-up contribution limit to automatically adjust for inflation, effective starting in 2024. Inflation adjustments will be made in increments of $100. Problem solved!

10% Penalty Limitation Expanded:

Historically, the IRS will impose a 10% penalty for early withdrawals from a retirement account prior to age 59½. The idea, after all, is to incentivize taxpayers to leave retirement accounts alone so they have resources when they want to retire. However, over time, Congress has passed legislation that will allow taxpayers to access funds penalty free for certain expenses, like higher education and medical expenses. Or certain events like death or disability.

SECURE Act 2.0 expands this list of exemptions to the following:

Expands the Age 50 Public Safety Worker Exception: This creates an exception to the 10% early withdrawal penalty for individuals who separate from service in the year they turn 50 or older, but now includes private-sector firefighters, state and local corrections officers and other forensic security employees and plan participants who separate from service before they reach age 50, but who have performed 25 or more years of service for the employer sponsoring the plan.
Qualified Disaster Distributions: To qualify for such distributions, an individual must have their principal place of residence within a Federally declared disaster area, and they must generally take their distribution within 180 days of the disaster. The maximum amount of a disaster distribution is set at $22,000. The income from Qualified Disaster Recovery Distributions is able to be spread evenly over the 3-year period that begins with the year of distribution. In addition, all or a portion of the Qualified Disaster Recovery Distribution may be repaid within 3 years of the time the distribution is received by the taxpayer. This provision is actually retroactive to disasters that occur on or after January 26, 2021.
For individuals who are terminally ill: The 10% penalty is waived. For most income tax purposes, an individual is only deemed to be “terminally ill” if they have “been certified by a physician as having an illness or physical condition which can reasonably be expected to result in death in 24 months or less”, for purposes of this exception, that time frame is expanded to 84 months (7 years). Such distributions may be repaid within 3 years.
For victims of domestic abuse: Authorizes victims of domestic abuse to withdraw up to the lesser of $10,000 (indexed for inflation) or 50% of their vested balance without incurring a 10% penalty. To qualify, the distribution must be made from a defined contribution plan within the 1-year period after an individual has become a victim of such abuse, and all or a portion of the distribution may be repaid within 3 years.
Emergency Withdrawals from retirement accounts: Such distributions will be exempt from the 10% penalty and may be taken by any taxpayer who experiences “unforeseeable or immediate financial needs relating to necessary personal or family emergency expenses.”

Student Loan Payments Eligibility for Employer Retirement Match:

Student loan debt can be financially suffocating. Oftentimes, that debt payment will prevent an employee from being able to “afford” to start saving into an employer 401k plan (ie, pay my student debt or start saving for retirement). Employers will be able to amend their plans to allow employer matches for amounts paid by participants towards their student debt. Vesting and matching schedules must be the same as if the loan payments had been salary deferrals. We expect to see a lot of employers adopting this provision into their plan in an effort to attract and retain young talent.

Solo 401k Plan Established to Tax Deadline:

Taxpayers have long been able to create and fund certain SEP IRA accounts after the end of the year (up until the individual tax filing deadline, plus extensions) for the previous year. The original SECURE Act expanded that retroactive treatment to other employer-only funded plans, such as Profit-Sharing Plans and Pension Plans – but left solo-401ks with a year-end timeline.

Effective for plan years beginning after the date of enactment, SECURE Act 2.0 now takes that ability one step further by allowing sole proprietors, as well as those businesses treated as such under Federal law for income-tax purposes to establish and fund solo-401k plans with deferrals for a previous tax year up to the due date of the individual’s tax return (however, extensions aren’t included).

While historically a footrace would ensue to get a solo-401k established by end of the year (12/31), now there is good reason to establish a solo-401(k) plan early in the year and evaluate retroactive deferrals for the prior year!

2025:

Additional Catch-up Contributions (age 60-63):

Effective for 2025 and in future years, SECURE Act 2.0 increases employer retirement plan catch-up contribution limits for certain plan participants. More specifically, participants who are only ages 60, 61, 62, and 63 will have their plan catch-up contribution limit increased to the greater of $10,000 or 150% of the regular catch-up contribution amount (indexed for inflation) for such plans in 2024.

Similarly, SIMPLE Plan participants who are age 60, 61, 62, or 63 will have their plan catch-up contribution limit increased to the greater of $5,000 or 150% of the regular SIMPLE catch-up contribution amount for 2025 (indexed for inflation).

Auto-enrollment Required for Retirement Plans:

If you start a new job in 2025, there’s a solid chance you’ll be automatically enrolled into your new employer’s 401k or 403b plans. However, the list of exemptions for this requirement to auto-enroll is long and includes employers less than 3 years old, church plans, governmental plans, SIMPLE plans, and employers with 10 or fewer employees.

2026:

Expanded disability eligibility age requirements for ABLE accounts:

Under current law, ABLE (529A) accounts may only be established for individuals who become disabled prior to turning age 26. Effective for 2026 ABLE accounts will be able to be established for individuals who become disabled prior to 46.

Qualified Long-term Care Distributions:

SECURE Act 2.0 allows retirement account owners to take penalty-free “Qualified Long-Term Care Distributions” of up to the lesser of 10% of their vested balance, or $2,500 (adjusted for inflation) annually to pay for long-term care insurance.

2027:

Tax-free Disability Pension Payments for First Responders:

SECURE Act 2.0 provides significant income tax relief for certain disabled first responders. Qualifying First Responders are law enforcement officers, firefighters, paramedics, and Emergency Medical Technicians (EMTs) who receive service-connected disability and retirement pensions. Before SECURE Act 2.0, disabled first responders who receive a disability pension or annuity related to their service are generally able to exclude those amounts from income. However, once they reached their regular retirement age, their disability pension became a retirement pension and was no longer excludable from income tax. In short, a disabled first responder effectively traded a tax-free income stream for a regular taxable pension. SECURE Act 2.0 seeks to address this disparity by introducing an “excludable amount” that effectively allows such individuals to carry on the tax-favored disability payment throughout their lifetime.

2028:

S-Corp stock sales to ESOP eligible for 10% gain deferral:

Certain S corporation owners who sell their shares to an Employee Stock Ownership Program (ESOP) will be eligible to defer up to 10% of their gain if timely reinvested in Qualified Replacement Property. Currently, such deferral (of up to 100% of gain) is only available to certain C corporation owners.

Well, there you have it. But first, let’s end with a final question: What’s not in the bill?

This can be as important as to what’s in it. There was a lot of speculation around killing backdoor Roth conversions among other things.

Here’s a brief summary of items not addressed:

Limit the use of the Back-Door Roth or Mega-Back-Door Roth contributions.
Place new limits on who can make Roth conversions.
Create non-age-based RMDs (e.g., require balances in excess of a specified amount to be distributed).
Change the age at which QCDs can be made (as it continues to be age 70 1⁄2).
Implement new restrictions on Qualified Small Business Stock (QSBS).
Eliminate new types of investments (e.g., privately held investments) from being eligible to be purchased with IRA money.
Correct or clarify the manner in which the 10-Year Rule created by the original SECURE Act should be implemented for Non-Eligible Designated Beneficiaries.

Again, there’s a lot here to digest. Some might even say it’s the cure for insomnia. But that’s what we are here for – to interpret and point out areas of consideration for you in relation to your overall plan! If you have questions or need clarification please reach out to your Wealth Manager!

*This information represents the areas we felt impacted our clients the most. There is more to the bill that could affect an individual/business. We encourage you to reach out to your Wealth Manager if you have specific questions about your situation!