Reflections

Roth IRA Changes Under SECURE ACT 2.0

By Sean Condon, CFP®

The Roth IRA is perhaps the most attractive retirement savings vehicles for investors. Unlike traditional IRAs which provide tax-deferred growth (you pay the tax eventually), Roth IRA assets grow tax-free. Assets with this favorable tax characteristic can provide desirable flexibility in retirement years, where the future state of tax rates is very uncertain. The Roth IRA protects you from paying future income taxes, and this protection also continues for your heirs.

Because Roth IRAs are so attractive, there are many strategies used to navigate income limits on contributions and to maximize the benefit of a Roth Conversion.  In December 2022, the  SECURE Act 2.0 of 2022 was revised as President Biden placed the second iteration of this retirement act into law.  The law creates even more new rules and applicable strategies related to Roth accounts.  The bill will impact all Roth investors, and as long as you understand it the rules can make it easier for you to save with tax advantages.

This article will explain what the changes are, how they could affect you, and how you can make the most of them.

SECURE 2.0 also changes the rules around RMDs for Roth contributions in employer-sponsored retirement accounts. Starting in 2024, Roth accounts will no longer be subject to the RMD requirement. The act also expands Roth eligibility to SIMPLE and SEP IRAs starting in 2023.

1.   Roth Contributions Now Allowed by Employers

Many 401(k) plans offer employees the option to put away money as a Roth contribution.  Up until now, all employer matching or profit-sharing contributions have been made as a traditional, tax-deferred contribution.  The SECURE 2.0 Act provides greater opportunities for employees by allowing them to elect employer contributions as Roth contributions.

Effective December 29, 2022, employers may allow plan participants to designate employer matching and nonelective contributions as after-tax Roth contributions. Such contributions would be included in the participant’s taxable wage income for the year made. Employer contributions designated as Roth contributions must be immediately 100% vested.

Though this might take some time for employers and payroll companies to implement, this option will allow employees to choose whether their matching contributions are taxed up front (Roth) or in retirement (traditional).

2.   Catch-Up Contributions Must Be Made as Roth Contributions

Starting in 2024, employees who are 50 and older with wages above $145,000 (indexed for inflation) will be required to make any catch-up contributions to a Roth account, effectively eliminating the current-year deductibility of those contributions. The 2023 catch-up contribution limit for workers age 50 and up is $7,500.  Previously, this catch-up amount was allowed to be made on a traditional, tax-deferred basis.  Lower-paid employees may still contribute catch-up contributions on a pre-tax basis.

The SECURE 2.0 Act adds a “special” catch-up contribution limit for employees 60 to 63 years of age starting in 2025. The special catch-up contribution maximum for these workers will be the greater of $10,000 or 150% of the “standard” catch-up contribution amount for 2024. The $10,000 amount will be adjusted for inflation each year starting in 2026.

3.   Roth Contributions Now Allowed for SIMPLE and SEP IRAs

Effective for taxable years beginning after December 31, 2022, SIMPLE IRAs and SEP IRAs can accept Roth (i.e., after-tax) contributions. In addition, employers can offer employees the ability to treat employee and employer SEP contributions as Roth contributions (in whole or in part).

4.   Unused 529 Funds Now Allowed to Rollover to Roth IRA

Many Americans save for college education through 529 accounts, which allow up to $17,000 in gift-tax-free contributions per year, or $85,000 if the lump-sum election is selected. Contributions grow tax-free if they are used for eligible education expenses. If they are used for an unqualified expense, the earnings are taxable, and the distribution is subject to a 10% penalty.

This is where rollovers come in. The new SECURE 2.0 provisions allow unused 529 funds to be rolled over into a Roth IRA starting in 2024, which means that they can now be used for retirement and not just college. There are some strict limitations to this new rule, including:

  • There is a lifetime rollover cap of $35,000.
  • Rollovers are still subject to the annual Roth contribution limit ($6,500 in 2023), so it may take multiple years to completely roll over the funds.
  • The rollover must be made to the 529 beneficiary’s Roth account (typically the student), not the 529 account holder’s Roth (typically the parent).
  • The 529 must have been open for at least 15 years.
  • Contributions and earnings made in the last 5 years cannot be rolled over.

Let Us Answer Your Questions About SECURE 2.0

We understand that the SECURE 2.0 Act of 2022 is a complex piece of legislation, and it can be difficult to understand how it applies to you. At Windgate Wealth Management, we can help you navigate these changes to make the most of the new savings opportunities available in the context of your overall plan. We are committed to helping you understand the Act and are here to help answer your questions, so please don’t hesitate to reach out. To get started, you can call us (844) 377-4963 or email windgate@windgatewealth.com. You can also book an appointment online here.

Perritt Capital Management, Inc. is the Registered Investment Advisor for Windgate Wealth Management accounts and does not provide tax advice. Consult your professional tax advisor for questions concerning your personal tax or financial situation and your insurance agent for insurance advice.

Data here is obtained from what are considered reliable sources. We consider the data used to be relevant and reliable.

First published February 2023.

Past Performance does not guarantee future results.

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