Two Key Provisions of the SECURE 2.0 Act

The new SECURE 2.0 Act contains many provisions covering retirement plans, going beyond what was provided in the original SECURE Act. Passed in the last days of 2022, the new SECURE 2.0 Act imposes new requirements on some employers, even as it provides more flexibility for other employers and their employees.

This act is much longer than the original 2019 legislation, encompassing over 90 sections that widely vary in their impact. We will focus on two key provisions: automatic enrollment for employers with new retirement plans, and the further delay in receiving required minimum distributions (RMDs). More provisions will be discussed during the January 24 Get Ready for Filing Season webinar.

Key #1 For Businesses: Automatic Enrollment of Employees

The SECURE 2.0 Act starts with the premise that too few Americans are offered retirement plans through work. And even if retirement plans are offered, too many employees do not sign up for them. As a result, they do not plan for the financial needs that accompany the aging process and become critical when they can no longer work.

Congress first provided for automatic enrollment in retirement plans in 1998. Analysis of participation data among certain groups increased from 19% to 75%. This manner of enrollment especially increased participation among younger workers, those who were lower-paid, and belonging to certain groups that tend to have lower participation in retirement plans.

SECURE 2.0 requires 401(k) and 403(b) plans to enroll participants automatically beginning in 2025. Employees can opt-out if they don’t care to participate. Section 401(k) and 403(b) plans existing as of the date of the legislation are not required to have the automatic enrollment provision, making newly created retirement plans the primary subject of this section of the SECURE 2.0 Act.

As a part of required automatic enrollment, employees must contribute between 3% and 10% of their earnings to the plan. Each year the percentage increases by 1% on the first day of the plan year unless the employee elects to have their compensation withheld at a different rate. The rate can’t exceed 15%, though.

Congress made a few exceptions, including the following.

• • SIMPLE plans under IRC §401(k)(11)
  • Plans already established before SECURE 2.0 enacted (December 27, 2022)
  • Annuity plans already established before SECURE 2.0 enacted
  • Governmental plans §(414(d))
  • Church plans §(414(e))
  • New businesses during their first three years of existence
  • Small businesses with 10 or fewer employees until a year after they hire the eleventh employee

This section is effective for retirement plan years beginning after December 31, 2024. If a plan year begins December 1, then the new rules don’t affect it until almost a year later on December 1, 2025.

Key #2 For Individuals: Delay of RMDs

The delay of the RMD requirement is also a key section of the SECURE 2.0 Act. The act approaches this in a two-step manner, increasing it by different amounts for two groups of taxpayers.

The lower two rows in the following table illustrate these two groups. Born during the eight years between 1950 and 1959, the first group can delay starting RMDs until they reach age 73 because of SECURE 2.0. Taxpayers born after 1958 can wait until the year during which they turn 75 before they need to start taking RMDs.

Depending on their age, individuals can delay taking their first distribution longer. The delay benefits taxpayers who continue working and earning enough money that they do not need the RMD to make ends meet. The delay gives them more flexibility to manage their taxable income.

Because they will be starting distributions later, the annual distribution amounts are likely to be greater, other variables held constant. While taxpayers may be able to manage their taxable income better during the years before the required beginning date, their taxable incomes and possibly their marginal tax rates could be greater in later years.

An Example

Consider the example of a hypothetical taxpayer named Peter Smith, who turns age 72 on January 2, 2031, having been born in 1959. He owns a single IRA having a value of $500,000 on December 31, 2030, the date on which the RMD for the next year is determined. It increases in value every year by 5% (compounded annually), provided no distributions have taken place. If the SECURE 2.0 Act had not been passed, Peter’s life expectancy during 2031, the year he turned 72, would have been 27.4 years. This estimate is provided in Table III of IRS Pub. 590-B, Distributions from Individual Retirement Arrangements. Mr. Smith would have been liable for an RMD for 2031 of $18,248 ($500,000¸ 27.4 years).

This changes with the SECURE 2.0 Act in a major way. Because Mr. Smith reaches age 74 after December 31, 2032, the age at which he must start taking RMDs is 75. The first year for which he must start taking RMDs is 2034. Mr. Smith must receive the RMD for 2034 on or before April 1, 2035.

With the SECURE 2.0 Act’s changes, this individual’s IRA can grow by almost $79,000 to $578,813. Because Mr. Smith is three years older when he starts receiving RMDs, his distribution period decreases to 24.6 years. A little math shows that his RMD has increased almost 29% to approximately $23,529 ($578,813¸ 24.6 years). This calculation assumes no additional contributions result from Mr. Smith’s decision to continue working.

For clarity, this example has made some unrealistic assumptions, such as a 5% constant rate of compounding of the IRA value. It is also possible that the Uniform Lifetime table will change in the next 12 years. But the application to individual taxpayers is clear: waiting longer to receive distributions from an IRA results in higher RMDs.

The consequences for federal tax revenue are the opposite: less income tax revenue from RMDs at first but more later. This factor may motivate some taxpayers to continue working, causing both social security and Medicare to benefit from the additional taxes paid by the taxpayer who might otherwise have stopped working at age 72. Looking back at our example, the SECURE 2.0 Act gives Mr. Smith the incentive to work another three years, contributing to social security and Medicare while paying income tax on his salary, if not his RMDs.

Conclusion 

The SECURE 2.0 Act offers many other provisions, such as increased catch-up contributions to retirement plans for a narrow age group, an enhancement to the Saver’s Match credit, and many others. Some will be explained during tomorrow’s Get Ready for Filing Season webinar, so be sure to join it at 10 am CST. If you have not had a chance to sign up, you can register here.

By John W. Richmann, EA, MBA
Tax Materials Specialist, U of I Tax School

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Sources

SECURE 2.0 Act, part of Consolidated Appropriations Act, 2023, PL 117-328, §§101-702, Div. T.

SECURE 2.0 Act of 2022, Rodgers, MaiLan, Dec. 19, 2022. Senate Finance Committee. [www.finance.senate.gov/imo/media/doc/Secure%202.0_Section%20by%20Section%20Summary%2012-19-22%20FINAL.pdf] Accessed on Jan. 13, 2023.

IRC §§401, 408.