An IRA Beneficiary Trust ® (which also goes by other names) is a stand-alone trust used to be the beneficiary of tax-deferred IRA accounts for estate planning purposes. Naming a trust as the designated beneficiary of a your IRA has several very important advantages over directly naming the beneficiaries.

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.

One solution to this is to name a revocable living trust as contingent beneficiary of an IRA.  There are times this is appropriate and will serve your 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).  In 2005, the IRS issued Private Letter Ruling 200537044 (the “PLR”) that approved a new type of revocable trust created solely to be the beneficiary of an IRA account.  As a result of this PLR, it is now possible to create a stand-alone trust to serve as beneficiary of your IRA account(s) which provides maximum protection and flexibility.

This IRA Beneficiary Trust® insures that your client’s beneficiaries (those who will receive the IRA’s after the client’s death) “stretch-out” their taxable, required minimum IRA distributions over a much longer period of time; with this trust, the age of each beneficiary becomes the operative age for that beneficiary’s required minimum distribution. And, if they do it right, the IRAs can continue to compound for many years income-tax free – – and may literally grow to be worth millions of dollars! This type of trust is also called an IRA trust, a standalone IRA trust, an IRA stretch trust or an IRA protection trust.

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.)

But this benefit is obtained only if the beneficiary retains the inherited funds inside the IRA account.  If the child (for example) is named as the beneficiary, and if the child terminates the IRA account, the benefit is lost.  Even without the normal thought process of a younger beneficiary of “getting everything now”, a beneficiary may not be aware of the tax rules or of the distribution choices, and may allow the IRA to be terminated.  An IRA Beneficiary Trust® can insure the stretch-out (because you can restrict distributions in the trust document) and can provide the maximum benefit. 

Further, without the trust, even if the beneficiary retains the IRA account the account may be reached by creditors, unhappy spouses, or be required to be “spent-down” for governmental entitlements.  One of the big advantages to the IRA Beneficiary Trust® is the option to give a “Trust Protector” the right to elect out of a straight “conduit-trust” (i.e., where the RMD must be paid to the beneficiary on an annual basis) to a fully discretionary “accumulation trust” (i.e., where the trustee can hold the beneficiary’s RMD inside the trust).  At present, this election must be made—if at all—by September 30 of the year following the client’s death.  Making this election may result in a shorter “stretch-out” because the age of the oldest “possible beneficiary” must be used (the Trust Protector is also given the power to limit such possible beneficiaries to minimize this issue); however, having this option to elect between the different forms of trusts provides the flexibility to consider all factors known at the time of death and up to the election deadline (e.g., creditor problems, disability, etc.) which may greatly out-weigh the potential increase in the income tax costs.

The relationship between IRA Agreements, IRA Accounts, and Trusts is complex and remains somewhat unsettled.  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.  We 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.