Seniors, Protect Your Wealth!

While you may not have read it in the papers or seen it on the news, Congress recently passed the Pension Protection Act and it was signed into law. Some are saying that it's the "most sweeping reform of America's pension laws in over 30 years". And the PPA is something you need to be aware of whether you're building for your future or are already retired.

If You're Still Working

What the PPA does for you is it forces your company to fully fund the pension benefits it promises to its employees. Simply put, they can't offer benefits if they can't pay for them. This helps by strengthening existing pension plans, but will ultimately lead to companies doing away with pension altogether.

In addition the PPA takes the contribution limits that were passed in 2001 and makes them permanent, which gives employees the ability to put larger amounts into their IRA and 401(k) accounts.

However, probably the biggest change to the plan is the provision that allows non-spouse beneficiaries to "roll" money out of a 401(k) and into an IRA. This can allow families to save tens, even hundreds, of thousands of dollars.

Here's an example of how this new provision works. Say you stand to inherit money from your father's 402(k). Before the provision, you would have to take all of the money and then pay taxes on it. This money gets taxed just like your salary, so if you were going to get $300,000 then you'd pay taxes on it as if you'd made $300,000 that year. In the end, you'd end up giving nearly 1/3 of the money to good old Uncle Sam.

However, if you were getting an inheritance out of your dad's IRA, that money would be tax free at the outset. When someone passes away, you can take money from their IRA and "roll" it into an inherited IRA, which allows the amount to keep growing and defers the taxes. This process is usually called "stretching the IRA".

Consider that a person in their 30s inheriting a IRA could potentially be a millionaire by the time they retire. In the past, this couldn't be accomplished with a 401(k) unless your spouse was the beneficiary. However, the PPA makes all the difference.

Rules

That was the good news. Now it's time for the circumstances you'll have to meet in order to stretch the IRA.

Distribution of money has to come after January 1, 2007.
Money can't be added to an existing IRA. You'll have to set up a new "inherited" IRA and it has to be in the same name as well as have the same beneficiaries as the 401(k) account that's being rolled into it.
The beneficiary must be a real person. You can do this if your children are beneficiaries, but not your 'estate' or trust.
The transfer must be a direct rollover. Money has to move from the 401(k) directly to the IRA. If your company wants to send a check for the amount in the 401(k) it can't be payable to you or anyone else other than the inherited IRA.

Since this provision is fairly new, many banks and other 401(k) providers aren't aware that it even exists and some might tell you that it can't be done. Details are absolutely crucial because one thing out of place can put the kibosh on your inherited IRA. Before you do anything, consult a CPA and let them handle everything so you're sure it's done right.