Home Budget & Tax News CARES Act Encourages Retirement Savings, but ‘Stretch IRAs’ Get Snapped by New...

CARES Act Encourages Retirement Savings, but ‘Stretch IRAs’ Get Snapped by New Rules

With the federal tax deadline having been moved to July 15 under the CARES Act, taxpayers have more time to reduce their tax liability and save more money for retirement.

Those who have not yet filed their 2019 taxes “can use the extra time to their advantage, explained Barbara Weltman, author of ‘J.K. Lasser’s Your Income Tax 2020,’ and take advantage of some provisions under the government’s $2.2 trillion CARES Act designed to help Americans during the coronavirus pandemic,” MarketWatch reports.

“People can reduce their 2019 tax liability by contributing to their individual retirement account (IRA),” the story notes. “The maximum contribution amount is $6,000, or $7,000 for those 50 and above.”

In addition, “The stimulus bill also lets taxpayers withdraw up to $100,000 from their IRA and pay it back to their account in three years without a consequence on their income taxes,” MarketWatch reports. “But the interim tax consequences can get complicated, as MarketWatch tax columnist Bill Bischoff points out.

Passing It On

One of those complications, not mentioned by MarketWatch, stems from provisions in an appropriations bill funding government agencies for Fiscal Year 2020 which change how individuals with retirement accounts can transfer wealth to their heirs.

President Donald Trump signed the Consolidated Appropriations Act of 2020 into law in January, including language adopted from House Resolution 1994 (H.R. 1994), also known as the Setting Every Community Up for Retirement Enhancement (SECURE) Act.

Among other changes, the provisions restrict the ability of people to transfer savings to their children after passing away.

Tallying the Costs

Adam Michel, a federal tax policy expert with The Heritage Foundation, says the SECURE Act creates new requirements for individual retirement accounts (IRAs) passed down as part of an estate.

“On the cost side, the biggest negative to this bill is that it raises taxes on middle-class savers by eliminating what’s often called the ‘stretch IRA,’” Michel said. “Ultimately what this does is, if you’ve accumulated some savings in your retirement account and you pass away and leave it to your heirs, your heirs used to be able to roll that into their retirement portfolio. They weren’t required to start drawing down on that money. Under the new rules, that inherited 401k has to be drawn down over the subsequent ten years, raising taxes on those inheritance savings in several different ways.

“This raises taxes on middle-class savers because the ‘super-wealthy’ have all sorts of other ways to pass inheritance on to their children,” Michel said. “The 401(k) is your typical middle- or upper-middle [income] way that parents and grandparents save for the next generation, and this directly targets that avenue.”

Says It’s Unfair to Savers
Chris Casey, CFA, a managing director at WindRock Wealth Management, says the new limits on stretch IRAs are unfair to families.

“It’s not particularly fair, which is why courts embrace stare decisis—allowing precedent to stand—and the Constitution forbids ex post facto laws: so people can plan accordingly with stable laws,” Casey said. “But overall, it’s not very onerous. I think it’s worse when Congress changes tax law retroactively, and I have no idea how they’re able to get away with that.”

Some Silver Linings

Despite the negatives, Michel says the SECURE Act provisions passed in the appropriations law include some positive reforms.

“The upsides were in private retirement savings accounts, like your 401(k) and your IRA,” Michel said. “It allows retirees that were capped in their ability to continue to contribute to these accounts at 70, removing that cap and allowing them to contribute to these accounts for as long as they’re working.

“It also raised the age at which you have to start removing money from retirement savings accounts, Michel said. “It used to be that when you reached 70 and a half, you had to start drawing down retirement accounts. That was raised to 72. This is a much-needed change and move in the right direction, as our working population gets older. These are all good reforms that will increase people’s ability to provide for their future.”

Suggests Tax Cuts, Reforms

Cutting taxes and removing government incentive programs would massively benefit most people, Casey says.

“Theoretically, there’s no real reason to even have tax-advantaged retirement accounts,” Casey said. “The only reason we do is because taxes on both investments and income are so high. So, if you really want to help everybody, do away with retirement funds and their complexities and rules, and massively reduce tax rates on capital gains, interest, and income. This would especially help everyday people, because retirement accounts are not very flexible or simple.  For example, many private investments are not allowed or effectively utilized in IRAs.

“To the extent ordinary people rely on IRAs as their primary method of investment, they are hurt by this, unlike wealthier individuals who can use non-IRA money,” Casey said.

Jesse Hathaway (think@heartland.org) is a policy advisor to The Heartland Institute.

Jesse Hathaway
Jesse Hathaway is a policy advisor for budget and tax issues at The Heartland Institute.

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