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Retirement Perspectives

Benefits of the Family Savings Act include lifting the age restriction for IRA contributions and expanding the use of 529 plans.

Good news for those of us saving for both retirement and education: lawmakers in Washington, D.C. are trying to make it easier for us to save more. On September 27, 2018, the House of Representatives approved three separate tax bills that are being referred to as Tax Reform 2.0. One of the three bills, the Family Savings Act, is being touted as making it easier for individuals to save for retirement and for business owners to establish a qualified plan. In addition, the bill offers a new vehicle to save on a tax-advantaged basis.

The trio of bills known as Tax Reform 2.0 include:

  1. The Protecting Family and Small Business Tax Cuts Act aims to make permanent the individual and small business tax cuts from the Tax Cuts and Jobs Act (TCJA) that are set to expire in 2025.
  2. The American Innovation Act aims to help new businesses by boosting the allowable tax deduction of startup costs.
  3. The Family Savings Act is a mix of changes that would affect employer sponsored plans, IRAs, and 529 education accounts.

Let’s take a look at one of the bills: the Family Savings Act (H.R. 6757), which contains a mix of retirement and education proposals. Here’s a brief description of some of the proposals in this bill.

Allow traditional IRA contributions at any age. Currently, traditional IRA contributions must cease in the year a taxpayer reaches age 70½. Notably, this age restriction does not apply to SEP, SIMPLE, or Roth IRAs. The proposal would repeal the age restriction. So anyone with earnings, regardless of age, can fund a traditional IRA. This change would also open the “back-door” Roth strategy for those taxpayers 70½ or older.

Exempt small account balances from required minimum distributions (RMDs). The proposed legislation would waive RMDs for any year a taxpayer’s total account balance (IRAs, qualified plans, 403(b), and governmental 457(b)) is equal to or less than $50,000; subject to inflation. The proposal only applies to lifetime RMDs, not inherited accounts.

Additional penalty free withdrawal exemption. The proposed legislation would add another exception to a lengthy list of situations where if a person is younger than age 59½, a distribution from a retirement account is not subject to the 10% early withdrawal penalty. The proposed exception would include the birth or adoption of a child. The distribution would be limited to a maximum of $7,500 and have to occur within one year of the birth/adoption. Notably, the proposal says that the distribution could be repaid (rolled over) sometime in the future.

Graduate student compensation is eligible for an IRA. This treats certain taxable graduate student non-tuition fellowship and stipend payments as compensation for IRA purposes.

Expand multiple employer plans (MEPs) and pooled employer plans (PEPs). The legislation would eliminate the common interest requirements for plans for pooled plan providers (PPP) thus expanding MEP eligibility for a vast number of small businesses. In addition, the proposal would eliminate the “one bad apple” rule under which the disqualification of a single employer causes the entire plan to lose its tax-qualified status.

Permit employers additional time to establish a qualified retirement plan. An employer would have until the business’s tax return deadline (plus extensions) to establish a plan, rather than the last day of the business’s tax year.

401(k) annuity safe harbor. On Sept. 25, an amendment was made to the Family Savings Act that incorporates a safe harbor to limit the fiduciary liability for the selection of a lifetime income provider within a defined contribution plan.

Custodial accounts on termination of 403(b) plans. Custodial accounts of certain terminating 403(b) plans would be deemed IRAs as of the date of termination.

Expands benefits of Section 529 accounts. Qualified distributions would be allowed to pay for apprenticeship programs to learn a trade and homeschooling. Also included is a provision that would allow up to $10,000 to be used to pay down student debt.

Interestingly, the Family Savings Act contains a proposal for a new type of tax-advantaged savings vehicle—a Universal Savings Account (USA). The framework of USA is similar to a Roth IRA. Contributions would be made with aftertax dollars, while earnings would be distributed tax free. However, unlike a Roth, tax-free distributions would be permitted anytime for any reason. The contribution would be limited to $2,500 annually.

If you have any questions about this or another retirement topic, please e-mail me at roadtoretirement@lordabbett.com.

 

To comply with Treasury Department regulations, we inform you that, unless otherwise expressly indicated, any tax information contained herein is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties that may be imposed under the Internal Revenue Code or any other applicable tax law, or (ii) promoting, marketing, or recommending to another party any transaction, arrangement, or other matter.

The information is being provided for general educational purposes only and is not intended to provide legal or tax advice. You should consult your own legal or tax advisor for guidance on regulatory compliance matters. Any examples provided are for informational purposes only and are not intended to be reflective of actual results and are not indicative of any particular client situation.

The information provided is not directed at any investor or category of investors and is provided solely as general information about Lord Abbett's products and services and to otherwise provide general investment education. None of the information provided should be regarded as a suggestion to engage in or refrain from any investment-related course of action as neither Lord Abbett nor its affiliates are undertaking to provide impartial investment advice, act as an impartial adviser, or give advice in a fiduciary capacity. If you are an individual retirement investor, contact your financial advisor or other fiduciary about whether any given investment idea, strategy, product or service may be appropriate for your circumstances.

GLOSSARY OF TERMS

Traditional IRA contributions plus earnings, interest, dividends, and capital gains may compound tax-deferred until you withdraw them as retirement income. Amounts withdrawn from traditional IRA plans are generally included as taxable income in the year received and may be subject to 10% federal tax penalties if withdrawn prior to age 59½, unless an exception applies.

A Roth IRA is a tax-deferred and potentially tax-free savings plan available to all working individuals and their spouses who meet the IRS income requirements. Distributions, including accumulated earnings, may be made tax-free if the account has been held at least five years and the individual is at least 59½, or if any of the IRS exceptions apply. Contributions to a Roth IRA are not tax deductible, but withdrawals during retirement are generally tax-free.

A SIMPLE IRA plan is an IRA-based plan that gives small-business employers a simplified method to make contributions toward their employees’ retirement and their own retirement. Under a SIMPLE IRA plan, employees may choose to make salary reduction contributions and the employer makes matching or nonelective contributions. All contributions are made directly to an individual retirement account (IRA) set up for each employee (a SIMPLE IRA). SIMPLE IRA plans are maintained on a calendar-year basis.

A simplified employee pension plan (SEP IRA) is a retirement plan specifically designed for self-employed people and small-business owners. When establishing a SEP IRA plan for your business, you and any eligible employees establish your own separate SEP IRA; employer contributions are then made into each eligible employee’s SEP IRA.

401(k) is a qualified plan established by employers to which eligible employees may make salary deferral (salary reduction) contributions on an aftertax and/or pretax basis. Employers offering a 401(k) plan may make matching or nonelective contributions to the plan on behalf of eligible employees and may also add a profit-sharing feature to the plan. Earnings accrue on a tax-deferred basis.

A 403(b) plan is a retirement savings plan that allows employees of public schools, nonprofit, and 501(c)(3) tax-exempt organizations to invest on a pretax and or Roth aftertax basis. Contributions to a 403(b) plan are conveniently deducted directly from your paycheck. In addition, your employer may elect to make a contribution on your behalf.

A governmental 457(b) deferred-compensation plan allows employees of states, political subdivisions of a state, or any agency or instrumentality of a state to invest money on a pretax or Roth aftertax basis through salary reductions. The employer deposits amounts withheld into an annuity, custodial, or a trust account, where the funds accumulate tax-deferred or potentially tax free in the case of Roth aftertax contributions until withdrawals commence, usually at retirement.

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