SECURE 2.0 Act of 2022
Co-Authored by Connor Smart
Late last week, the Consolidated Appropriations Act, 2023, a 4,155-page omnibus bill, was approved by Congress, and is awaiting the President’s expected signature. 359 pages of this bill consists of the “SECURE 2.0 Act of 2022.” The text of SECURE 2.0 (the Act) is called “Division T” and can be found on pages 2046 through 2404 of the bill. The Senate Finance Committee has issued a very helpful summary of SECURE 2.0.
SECURE 2.0 combines some of the features of several different retirement bills that have been proposed throughout 2021 and 2022. In a manner similar to the passage of the original SECURE law in 2019, the proposals languished for months and then were enacted in late December.
SECURE 2.0 contains a number of significant changes to the rules governing qualified retirement plans, as well as some changes that could be significant to individual taxpayers. The following is a non-comprehensive overview of some of the Act’s most important provisions. Please note that some of these comments are a bit oversimplified for purposes of brevity, and that there are some provisions in the Act that we have not addressed here.
Increased RMD Age
Beneficiaries of qualified retirement plans and regular IRAs are currently required to start taking distributions from their accounts starting at age 72. (It is permissible to delay the first such distribution until April 1 of the following year.) Effective on January 1, 2023, the Act raises the age for required minimum distributions (RMDs) as follows:
- To age 73 for a person who reaches age 72 after December 31, 2022 and age 73 before January 1, 2033; and
- To age 75 for a person who reaches age 74 after December 31, 2032
(The above criteria create some confusion because individuals born in 1959 are in both groups. This will need to be clarified, perhaps in a technical correction bill.)
This change will allow account holders to enjoy longer tax-deferred growth. It may also provide tax planning opportunities in the form of additional pre-RMD years in which to take distributions, or perform Roth conversions, in a year when the account holder is in a relatively low tax bracket.
The minimum age at which an IRA owner can make a qualified charitable distribution is still 70 ½.
Reduction in 50% Excise Tax for Failure to Take RMDs
Currently, IRA and qualified plan account holders who fail to take RMDs are subject to a 50% penalty on the difference between the required amount and the amount actually taken. Starting in 2023, the penalty amount is reduced to 25%, and it is further reduced to 10% if corrected within a two-year correction window, with the 10% penalty being paid.
The penalty can be abated if the failure is due to reasonable cause. In practice, the IRS has generally been quite lenient in allowing abatement. One wonders if this will continue to be the case now that the amount of the potential penalty is much lower.
Higher Catch-Up Limits for Plan Participants Ages 60 through 63
Participants over age 50 who make elective deferrals to 401(k), 403(b), and SIMPLE plans are permitted to make “catch-up” contributions in addition to their regular contributions. The maximum amounts for 2023 are $7,500 for 401(k) and 403(b) plans and $3,500 for SIMPLE plans. These amounts are adjusted for inflation.
Starting in 2025, plan participants can make an additional catch-up contribution in the years of their 60th through 63rd birthdays. For 403(b) and 401(k) plans, the amount is the greater of $10,000 or 150% of the regular catch-up amount. For SIMPLE plans, the amount is the greater of $5,000 or 150% of the regular catch-up amount.
The purpose of this provision is to enable participants to significantly increase their retirement savings in the years shortly before the traditional retirement age.
“Rothification” Requirement for Catch-Up Contributions
Starting in 2024, catch-up contributions to 401(k) and 403(b) plans must be treated as Roth contributions. There is an exception for employees who made $145,000 (as adjusted for inflation) or less in the previous year.
The purpose of this provision is to raise revenue, because these participants will not be able to obtain a current exclusion from income for their catch-up contributions. However, in the long run it may result in a net loss of revenue, because these Roth accounts will grow tax-free and, unlike “regular” 401(k) accounts, will not generally be subject to taxation upon distribution.
The provision will likely result in a proliferation of Roth accounts within 401(k) and 403(b) plans.
Permissive Roth-Related Provisions
The Act contains the following non-mandatory provisions, effective in 2023, which allow employers options for offering Roth accounts within their plans:
- Roth contributions can be made to SIMPLE plans.
- SEP contributions can be made as Roth contributions (in whole or in part).
- Plans can allow employees to receive matching or nonelective contributions on a Roth basis.
Student Loan Payment Matching Program
For plan years starting in 2024, plan sponsors can make matching contributions to 401(k) and 403(b) plans for amounts paid by employees in repayment of their student loans.
100% Tax Credit for Setting Up New Plan
The small business credit for starting a new plan is currently 50% of administrative costs, up to an annual cap of $5,000. Effective for tax years beginning in 2023, the credit is increased to 100% for employers with up to 50 employees, subject to a cap of $1,000 per employee. (Employees who earn more than $100,000 (indexed for inflation) are not counted for purposes of calculating the credit.) The percentage is 100% in the first and second years, 75% in the third year, 50% in the fourth year, and 25% in the fifth year. The percentage is phased out for employers with between 51 and 100 employees.
Enhanced Saver’s Match
Effective for plan years beginning after 2026, there will be a “saver’s match” of up to $2,000 for contributions into an IRA or qualified retirement plan for individuals below certain AGI limits (less than $71,000 in the case of joint filers and less than $35,500 for single filers). This will replace the existing nonrefundable credit for individuals with low AGIs who contribute to IRAs, retirement plans, or ABLE accounts.
Expansion of Automatic Enrollment
Effective for plan years beginning after 2024, newly adopted 401(k) and 403(b) plans will be required to automatically enroll participants upon becoming eligible to make elective deferrals. The initial automatic enrollment percentage must be at least 3% of compensation and must be increased annually until it is at least 10%. Employees will be able to opt out of making these elective deferrals.
“Starter” 401(k) Plans
SECURE 2.0 allows employers that do not already sponsor a retirement plan to offer a “Starter” 401(k) plan or safe harbor 403(b) plan. Starter Plans are deferral-only arrangements that generally require automatic enrollment for eligible employees of between 3 and 15 percent of compensation (though employees may elect out of the deferral arrangement should they so choose). Contributions to Starter Plans can only come from employee deferrals, and, similar to the IRA Limitations, the calendar year contribution total cannot exceed $6,000 (indexed for inflation), with an additional $1,000 allowed for employees aged 50 or older. It is possible that these Starter plans may offer a low-cost, low-complexity retirement solution for those employers that do not already offer any such benefit but would like to, and/or are required to now offer such a plan by their State legislature.
Exceptions to 10% Early Withdrawal Penalty
The Act adds a variety of additional exceptions to the 10% penalty for pre-age 59 ½ withdrawals from IRAs and retirement plans. (These are exemptions from the penalty, not from having to include the withdrawals in taxable income.)
Effective in 2023, the following types of distributions are exempt from the penalty:
- Distributions of up to $22,000 for individuals affected by a federally declared disaster that occurred on or after January 26, 2021, up to $22,000. These distributions are taken into income over 3 years and can be repaid.
- Distributions to individuals with a terminal illness.
- Corrective distributions made to highly compensated employees from 401(k) and 403(b) plans as a result of the plan’s failure to pass certain nondiscrimination tests.
Effective in 2024, the following types of distributions are exempt from the penalty:
- Distributions of up to $1,000 for unforeseeable or immediate emergency expenses, with the option to allow repayment to the plan within 3 years.
- Distributions to victims of domestic abuse, up to the lesser of $10,000 or 50% of the account balance, with the ability to repay the plan within 3 years.
Effective 3 years after the date of enactment of the Act, distributions of up to $2,500 per year for the payment of premiums for certain long term care insurance contracts are exempt from the penalty.
Emergency Savings Provision
Effective for plan years beginning after 2023, employers will have the option of offering pension-linked emergency savings accounts to their non-highly compensated employees.
Employers will be able to automatically have the employees contribute to these accounts at a rate of no more than 3% of their salary, with a cap of $2,500. Contributions will be made on a Roth basis and will be treated as elective deferrals for purposes of retirement matching contributions. Employees will be able to withdraw from these accounts and the first four withdrawals from the account each plan year may not be subject to any special fees or charges. At separation from service, the employees may take their emergency savings accounts as cash or roll them into their Roth accounts or IRAs.
Enhanced Contributions to SIMPLE Plans
Currently, employer contributions are limited to either 2% of compensation (nonmatching) or a 3% match of an employee’s elective deferrals. Starting in 2024, employers will be able to make additional non-matching contributions of up to the lesser of $5,000 or 10% of compensation.
For 2023, elective deferrals to SIMPLE plans are limited to $15,500, with an additional catch-up contribution available to employees age 50 and higher. These amounts are indexed for inflation. Starting in 2024, these amounts as indexed are increased by 10% for employees of employers with 25 or fewer employees. For employers with 26 to 100 employees, the 10% increase is available only if the employer offers a 3% nonmatching contribution or a 4% matching contribution.
Rollover of 529 Accounts to Roth IRAs
Starting in 2024, beneficiaries of 529 college savings accounts will be allowed to roll over up to $35,000 over the course of their lifetime from a 529 account to a Roth IRA. These rollovers are subject to Roth IRA annual contribution limits, and the 529 account must have been open for more than 15 years.
Increased Charitable Distributions from IRAs
Currently, IRA owners who have reached age 70 ½ are allowed to make up to $100,000 per year of qualified charitable distributions from their IRAs. These distributions are not subject to income tax.
Starting in 2023, the $100,000 amount will be indexed for inflation. In addition, IRA owners will be able to make a one-time $50,000 distribution (also indexed for inflation) to charities through a charitable gift annuity, charitable remainder unitrust, or charitable remainder annuity trust.
Reform of Family Attribution Rule
Certain related businesses need to be treated as a single employer for purposes of various retirement plan coverage and nondiscrimination rules. When determining ownership, an individual is deemed to own stock and other ownership interests that are actually owned by related individuals. Effective in 2024, the rules will be reformed to eliminate some inequities resulting from community property laws and from being co-parents of a minor child.
De Minimis Financial Incentives for Plan Participation
Effective for plan years beginning in 2023, employers will be able to offer de minimis financial incentives such as low-dollar gift cards, not paid for with plan assets, as an incentive to contribute to a 401(k) or 403(b) plan.
Retroactive First Year Elective Deferrals for Solo 401(k) Plans
Effective for 2023 plan years and later, sole proprietors will be able to establish a solo 401(k) plan after year end and make an elective deferral for that year. The current rule is that the plan must be in place by year end in order for an elective deferral to be made.
Tax Treatment of IRAs Involved in a Prohibited Transaction
If an individual with multiple IRAs commits a prohibited transaction with any of his or her IRAs, then all of the IRAs are disqualified and treated as distributed to the individual as of the first day of the year of the transaction. Starting in 2023, this treatment will apply only to IRAs that were involved in the transaction, and not to any IRAs that were not involved in the transaction.
RMDs from Roth accounts in retirement plans
Currently, Roth IRAs are not subject to the RMD requirements, but Roth accounts in 401(k) and 403(b) plans are subject to these requirements. Starting in 2024, RMDs will no longer be required from Roth accounts in 401(k) and 403(b) plans.
Elimination of Trade or Business Requirement for SEP Contributions
Effective for 2023, it will be permissible for employers other than trades or businesses to maintain a SEP for their employees. This will enable employers of domestic employees (nannies, etc.) to provide retirement benefits for these employees.
Disclaimer of Liability: This publication is intended to provide general information to our clients and friends. It does not constitute accounting, tax, investment, or legal advice; nor is it intended to convey a thorough treatment of the subject matter.