SECURE 2.0 ACT – SOME KEY TAKEAWAYS
In 2019 Congress passed the “The Setting Every Community Up for Retirement Enhancement (SECURE) Act” which made major revisions to the existing rules around retirement savings. These changes included raising the age of required minimum distributions (RMDs) and eliminating age limits for traditional IRA contributions. Congress has now passed a follow-up to that package that President Biden signed into law on December 23rd, 2022 as part of the $1.7 trillion budget bill. Here are just a few of the key takeaways from the new legislation and how they impact retirement savings.
Raising the starting age (again) for RMDs
· Effective Jan. 1, 2023, the age you must being taking your required minimum distributions increased from age 72 to 73.
· The penalty for failing to take RMDs by December 31st is reduced from 50% of the undistributed amount to 25%.
· On Jan. 1, 2033, the threshold age for RMDs will rise to 75.
· Extending the age for RMDs allows retirees with savings held in tax-deferred retirement plans to grow tax-deferred for a longer period of time.
Increase in catch-up limits
· For those aged 50 or older, the retirement plan contribution limit is increased (“catch-up contributions”). For 2023, the catch-up contribution amount is limited to $7,500 for most retirement plans and is subject to inflation increases.
· SECURE 2.0 provides a “second increase” in the contribution amount for those aged 60, 61, 62, or 63, effective for tax years after 2024. For most plans, this “second” catch-up limitation is $10,000, and $5,000 for SIMPLE plans.
Changes for qualified charitable distributions (QCDs)
· Under current law, individuals age 70 1/2 and older can direct up to $100,000 in distributions per year from a traditional IRA to qualified 501(c)(3) charitable organizations. Effective in 2024, a new provision will allow the maximum contribution amount to increase based on the inflation rate.
Expansion of Auto-Enrollment for Retirement Plans
· Beginning in 2025, employers sponsoring 401(k) or 403(b) retirement plans will be required to have automatic enrollment for their employees. The initial default rate of salary deferrals must be between 3% and 10%, including annual auto-escalation of 1%, up to at least 10% but not more than 15%.
· Requiring automatic enrollment in a retirement plan is meant to increase employee · Requiring automatic enrollment in a retirement plan is meant to increase employee participation. Employees who prefer not to participate can opt out. There is an exception to the requirement for small businesses with 10 or fewer employees, new businesses less than 3-years old, churches, and governmental plans.
Rollover 529 Plan Balances to Roth IRAs
· Beginning in 2024, it will be possible to roll up to $35,000 of leftover funds from a 529 education savings plan into a Roth IRA. This option is subject to a lifetime limit and certain restrictions. The 529 plan must have been in place for at least 15 years and the funds must be transferred directly into a Roth IRA for the same individual who was the beneficiary of the 529 plan. Contributions made to the 529 plan in the previous five years and any earnings attributed to those contributions are not eligible for this rollover.
As previously noted, these are just a few of the key elements that we’ve chosen to highlight from the new legislation. Please reach out to us with any questions regarding your personal situation as you plan going forward.
WILL FED POLICY CHANGE IN 2023?
As widely expected, the Federal Reserve reduced the pace of its policy tightening from 75 basis points to 50 basis points during the December FOMC meeting, bringing the target range for the federal funds rate to 4.25-4.5%. We believe that lower incoming inflation data will allow the Fed to pause its current rate hiking cycle in the first quarter of this year. This would leave the federal funds rate at 5%-5.25%, which is the median projection in the latest dot plot. We expect the Fed to keep the policy rate unchanged for an extended period after that. The market is currently predicting 50 basis points of additional policy rate tightening in the first quarter of this year. There is a scenario in which we see the Fed cutting the policy rate in 2023, the economy would need to appear to be entering a recession, which is not yet a foregone conclusion.
The Federal Reserve’s “dot plot” is a chart that shows the projections of the members of the Federal Open Market Committee (FOMC) for the federal funds rate, which is the main monetary policy tool used by the Federal Reserve. The dot plot shows the expected path of the federal funds rate over the next few years, with each dot representing the projection of a single FOMC member. The dot plot is updated at each FOMC meeting and is used to help communicate the committee’s monetary policy outlook to the public. It can be used to help predict future changes in interest rates and can also provide insight into the overall economic outlook of the FOMC. As we can see from the chart, further rate hikes are expected in 2023 and policy rate cuts projected in 24’ and 25’.
YEAR IN REVIEW AND OUTLOOK FOR 2023
As we entered 2022 it was widely expected that interest rates would move higher as the Federal Reserve found themselves deeply behind the rate of inflation. The Fed incorrectly believed that inflation would be “transitory” resulting in the inflation rate exceeding their 2% target for 12 months before they began to raise rates. As a result of their policy gaff, the Fed proceeded to raise the federal funds rate at the fastest pace since the 1980s! The shift in Fed policy led to an increase in market volatility and a widespread de-rating of equity and bond valuations resulting in price declines.
The most speculative areas of the market (i.e. technology, cryptocurrencies, SPACs, NFTs, biotech etc.) that benefitted from excess liquidity and zero interest rate policy experienced some of the largest price declines in 2022. Investors shifted their focus from growth stocks to value stocks and companies that could pass on higher prices to consumers.
For equities, as stock prices moved lower, the S&P 500 index moved closer in-line with its historical price-to-earnings multiple of approximately 16.5. While the downward move in prices has created more attractive opportunities for long-term investors, we still believe there is risk that earnings revisions may not yet be fully reflected in the markets.
For context, earnings expectations for 2023 have been steadily downgraded over the past six months, but still appear high given the slowdown in corporate revenue growth and expected margin compression, especially in tech and related sectors where demand was pulled forward during the pandemic. There is a risk that U.S. earnings downgrades will continue in the first half of this year but positive GDP growth (albeit slowing) and a potential pause in Fed policy could limit the severity.
In the near-term bond yields are likely to churn rather than to continue moving higher. Recent data has shown a deceleration in inflation and there is increased likelihood that the Fed and other central banks will soon pause their rate-hiking cycles. However, for 2023 there is risk that inflation remains “stickier” than many expect and economic growth may prove to be resilient. These factors could imply another move higher in bond yields. This would spillover to the equity markets and increase volatility.
The economic cycle is maturing and better asset valuations exist versus a year ago, but the environment is still not conducive to a new bull phase in bonds or stocks and would likely warrant a more meaningful shift in Fed policy. However, with the continued threat of inflation, we believe the Fed will continue its restrictive policy stance for the time being.