At the end of 2022, Congress passed the Consolidated Appropriations Act of 2023 spending bill that included the SECURE 2.0 Act of 2022. The updated SECURE (Setting Up Every Community for Retirement) Act includes many provisions to the initial legislation, enacted in 2020. With changes affecting various areas of retirement plans, SECURE 2.0 attempts to improve retirement savings opportunities while providing tax benefits for employers and clarifying aspects of the original Act.
Several key updates include:
- Age to take Required Minimum Distributions increases from 72 to 73, then 75 starting 2033
- Penalty tax for failing to take RMD reduced from 50% to 25% of RMD amount and 10% if corrected in timely manner
- Catch-up limits increase, starting in 2025
- Penalty-free withdrawals for certain emergencies
- Additional tax eliminated on corrective distributions of excess contributions
- Automatic plan enrollment expansion
- Emergency savings accounts linked to individual account plans
RMD Age Increase
The Act increases the age at which individuals must begin taking required minimum distributions (RMDs) from their retirement account from 72 to 73 beginning January 1, 2023 (for individuals who turn 72 after December 31, 2022, and 73 before January 1, 2033) and 75 starting on January 1, 2033 (for individuals who turn 74 after December 31, 2032). Individuals who turn 73 during 2023 must take their first distribution by April 1, 2024, and subsequent distributions by December 31 of each of the following years.
Reduction in Excise Tax on Certain Accumulations in Qualified Retirement Plans
Under current law, an excise tax is imposed on a payee under any qualified retirement plan (including IRAs) or eligible deferred compensation plan if the amount distributed during the payee’s tax year is less than the required minimum distribution. The Act reduces the penalty for failure to take RMDs from 50% to 25%. The Act also adds that if the failure to take the RMD is corrected in a timely manner, the penalty is reduced from 25% to 10%.
For these purposes, a correction window means the period of time beginning on the date on which the excise tax discussed above is imposed with respect to a shortfall of distributions from a plan and ending on the earliest of the date a notice of deficiency is mailed, the date on which the excise tax is assessed or the last day of the second tax year that begins after the end of the tax year in which the excise tax is imposed.
Higher Catch-up Limit
Starting in 2025, the Act increases the current catch-up limit to the greater of $10,000 ($5,000 for SIMPLE plans) or 50% more than the regular catch-up amount in 2024 (2025 for SIMPLE plans) for individuals 60-63. The statutory dollar amounts are indexed for inflation starting in 2026.
Participants will need to be wary of making catch-up contributions if they have income greater than $145,000. Plans are subject to mandatory Roth tax treatment (i.e., may not be made on a pre-tax basis) when made by participants whose wages for the preceding calendar year exceed $145,000, as annually indexed for inflation.
Penalty-Free Withdrawals for Certain Emergency Expenses
There is currently a 10% penalty tax on the taxable amount of distributions from tax-preferred retirement accounts, such as 401(k) plans and IRAs, received before age 59½. The new legislation provides several exceptions to this rule, including withdrawals made on or after the employee’s death, attributable to the employee becoming disabled, used to pay medical expenses to the extent a deduction for the expenses is allowable for the tax year of the distribution and more.
Only one distribution is permissible per year of up to $1,000, and a taxpayer has the option to repay the distribution within three years. No further emergency distributions are permissible during the three-year repayment period unless repayment occurs.
Elimination of Additional Tax on Corrective Distributions of Excess Contributions
Generally, a distribution from a qualified retirement plan or an IRA that is received before a participant turns 59½ is subject to an additional 10% early withdrawal tax on any amounts included in income. The Act specifically provides that earnings attributable to excess contributions to an IRA that are returned by the due date for the taxpayer’s return for the year (including extensions) are exempt from the 10% early withdrawal tax. The taxpayer must not claim a deduction for the distributed excess contribution.
Automatic Enrollment Expansion
Defined contribution plans that permit salary deferrals can be designed to automatically enroll employees at a predetermined contribution percentage. For plans that include automatic contributions, specific requirements apply for the arrangement to qualify as an automatic contribution arrangement.
With the Act, 401(k) or 403(b) agreements must satisfy three requirements:
- It must allow permissible withdrawals within 90 days after the first elective contribution.
- It must provide for automatic contributions of at least 3% and not more than 10% during a participant’s first year of participation. And effective on the first day of each plan year after a completed year of participation, the contribution percentage must automatically increase by 1 percentage point, to at least 10% but not more than 15%.
- If the participant makes no investment election, automatically contributed amounts must be invested in accordance with the rules for qualified default investment alternatives.
Automatic enrollment is not required for SIMPLE 401(k) plans, plans established before the Act’s enactment date, governmental or church plans, any plan maintained by an employer in existence for less than 3 years and any plan maintained by an employer that employs not more than 10 employees.
Emergency Savings Accounts Linked to Individual Account Plans
Employers now have the option to offer to their non-highly compensated employees pension-linked emergency savings accounts. Employers may automatically opt employees into these accounts at no more than 3% of their salary and capped at $2,500. Once the cap is reached, the additional contributions can be directed to the employee’s Roth defined contribution plan (if they have one) or stopped until the balance attributable to contributions falls below the cap.
While the Act was passed by Congress and signed into law on December 29, 2022, several of the provisions will not go into effect until 2024 or later. By increasing the age individuals must begin taking RMDs, reducing penalty and withdrawal taxes, increasing catch-up limits and more, the updated legislation attempts to benefit employees and employers alike while clarifying the original law. However, specific aspects of the Act, as with any law, are nuanced and can vary based on circumstance. For questions about how this affects your retirement plans or taxes, reach out to your Janover professional or contact us today.