First, your chosen beneficiary may be a minor, not prudent with money, have marital or creditor issues, or may be disabled. Second, if the beneficiary dies before distribution, the contingent beneficiaries may not be correct. Third, the beneficiary may intentionally or unintentionally withdraw the IRA thereby incurring an unnecessary tax bill.
So we frequently have our clients name a revocable living trust as contingent beneficiary of an IRA. There are many times this is appropriate and will serve the client’s needs well.
However, naming the your revocable living trust as the beneficiary of your IRA, even with the appropriate “conduit-trust” language, may create issues with the operative age for the “stretch-out” of the required minimum distributions (RMDs). You see, the conduit language functions like naming the beneficiaries directly, except that it 1) adds the trust protection, 2) provides your contingency directions, and 3) makes it easy to maintain and amend your estate plan in the future. All of that is great, and probably worth the cost of the trust even if the trust provided no other benefits.
But despite the clear advantages, doing it this way shares two major drawbacks of naming beneficiaries directly: 1) the ‘stretch-provisions’ for all beneficiaries is based on the age of the oldest beneficiary, and 2) once the beneficiary has it, they can do what they want (including cash it out to pay for plasma TVs and granite countertops).
Enter the IRA Beneficiary Trust® (aka, IRA Protection Trust and a few other names). This can be used to insure that your beneficiaries (those who will receive the IRA’s after your death) “stretch-out” their taxable, required minimum IRA distributions over a much longer period of time. And while we call it an “IRA Trust”, it works with virtually any tax-deferred accounts, not just IRAs. With this trust, the age of each beneficiary becomes the operative age for that beneficiary’s required minimum distribution. If there is a significant age difference between the beneficiaries, this can be huge. And if you want, you can make them wait to withdraw the money until they reach that age (or any other age).
If children and grandchildren who inherit IRA funds keep the funds in the IRA for their lifetime, and only take the required minimum distributions each year (the “stretch-out”), the amount of wealth that can be retained in the family is very significant. For example, with a $100,000 IRA account, an annualized 8% return, and a 35 year old beneficiary, the total benefit is $1,228,630—and for a 10 year old beneficiary, the total benefit is $5,363,512! (And if you don’t have that much isn’t that all the more reason to maximize what you do have?)
Now, this benefit is obtained only if the beneficiary retains the inherited funds inside the IRA account. As we said, IF you choose to do so with the IRA beneficiary trust you can ‘force’ them to do this (because you can restrict distributions in the trust document). You can also, if you choose, provide life-long protection for the money from creditors, unhappy spouses, or required “spend-downs” for government benefits. Remember that absent a trust, inherited retirement accounts enjoy very little creditor-protection.
The relationship between IRA Agreements, IRA Accounts, and Trusts is complex and remains somewhat unsettled. And estate planning is itself complex because there are so many factors to consider. Some of the issues will be explored in future posts on this blog. Sorrell Law Firm is pleased to be able to offer our clients the IRA Beneficiary Trust® as yet another item in our arsenal in estate planning tools to provide you with the opportunity and ability to control your assets and maximize the benefit for yourself and your chosen heirs. Schedule an Estate Planning Session with us today. We will take the time to work with you to tailor an estate plan to your situation and your goals. And as your life changes (and it will) and as the politicians change the law (and they will); we will continue to be available to you to ensure that your estate plan meets your needs and accomplishes your goals.
Image Credit: Karla Landeros