Many people have some type of Individual Retirement Account that should be reviewed as part of the estate planning process. Since an IRA is part of the ultimate distribution, it is a good idea to contact the company managing the IRA account and confirm that the beneficiary designations are up to date, and accurately reflect your wishes. This is especially important if a spouse has passed away since the original form was filled out – you want to make sure that contingent beneficiaries are designated.
[Note: This is also a good time to check all beneficiary designations, including life insurance and annuities.]
Naming a Trust Beneficiary of an IRA
If I am preparing a trust for a client, they frequently ask whether their trust should be named the beneficiary of the IRA. The answer is, “No, No, No.” The reason for this is that if a person is named as a beneficiary of an IRA, they get to stretch out the remaining funds over their lifetime, resulting in lower taxes. However, since a trust is not a “person” it has no life expectancy. Thus, the entire amount remaining in the IRA is distributed, and all taxes are due immediately. It may be possible to convince the IRS that the trust was simply a conduit, and the real beneficiaries are people, but trying to do that would cost the estate legal fees that can be completely avoided.
Naming Charities as Beneficiaries of an IRA
If a client has charitable intent, naming one or more charities as beneficiaries of an IRA can work out very well. Unlike individuals, a charity will probably be able to avoid any tax on the distribution, and the estate will be able to take full advantage of the charitable contribution if estate taxes are required.
Naming One Person as Beneficiary, But Wanting Something Else
Name the people you actually want to receive the IRA. If you name one person, but tell them that you actually want them to distribute it to other people is a bad idea. First, the person named will have to cash out the entire IRA to follow your wishes. The will have to pay the taxes on the entire amount. Second, if they are the sole listed beneficiary, they do not have to cash it out at all. Finally, if they do cash in the IRA and pay the taxes, they may have trouble actually making the distributions. The IRS allows any person to gift $13,000 per year, so if the distributions are more than that, they person designated will have to file a Form 709 Gift Tax Return with the IRS.
IRAs can be an important part of the legacy handed down to children and grandchildren. If designated properly, payments from an inherited IRA may be made for decades to the listed beneficiaries. To ensure this happens, check that the current designations reflect your wishes, that they are up-to-date, and if you have named your trust as the beneficiary, contact your estate attorney for a review of your planning.
Five Rules for Inherited IRAs (forbes.com)
What is an Inherited IRA? (money manager.com)