When Clients Should and When They Shouldn’t

A Warning About IRA Trusts
Before we get started here, advisors should be aware of the tax and estate planning complications created by naming trusts as IRA beneficiaries. They are not for everyone. However, there are certain IRA owners who should be setting up trusts as IRA beneficiaries. Those situations are detailed below. There are times when naming a trust as your IRA beneficiary may be the only solution, and that is when it should be used. It should not be used haphazardly because “my attorney told me to do it” or because you were told it would save taxes. There is no tax benefit that can be gained with a trust that cannot be gained without one. Therefore, you would only use trusts for personal (non-tax) reasons. Examples of non-tax reasons are: to restrict access in some way, such as when the IRA beneficiary is a minor, disabled, incompetent, or unable to make his or her own decisions; to assist in the management of the trust funds; in second marriage situations; or for creditor protection (although many states now protect IRAs).

Trusts as IRA beneficiaries create unique problems and tax complications even when executed perfectly. IRA trusts cannot provide the panacea of tax and personal solutions that many IRA owners are looking for. There are trade-offs and consequences. Consider this paragraph a disclaimer and warning. Don’t name trusts as IRA beneficiaries unless you know what you are doing and it’s the only solution. Even then, most of these trusts are poorly drafted and cause more problems than they are worth.

Overview of IRA Trusts
Large accumulations in IRAs and other retirement accounts have created interest in naming trusts as beneficiaries, in order to better control post-death distributions and restrict access to beneficiaries who might otherwise squander large inherited IRAs.

Instead of naming a person (for example a child or grandchild) as a direct beneficiary on the account, a trust would be named. The trust beneficiary would be the child, grandchild or other person that the IRA owner wants to receive the IRA. There could also be one income beneficiary and other beneficiaries who receive what’s left after the income beneficiary dies.

Trusts are not for everyone though. The main purpose is to control or protect post-death distributions from the inherited IRA or retirement plan. If that is not the intention, then a trust may not be appropriate.

If the trust is appropriate, it must qualify under the various IRS rules in order for the oldest trust beneficiary to be able to use their own life expectancy for computing post- death required distributions (the stretch IRA concept). If the trust does not qualify, the stretch IRA option is lost.

3 Step Process for IRA Trusts:

Step 1
Should your clients leave their IRAs to a trust?
Find out if your client actually does need to name a trust as IRA beneficiary

 

Reasons to name a trust as an IRA beneficiary

Step 2
Assumption: You and your client have decided that a trust should be the IRA beneficiary

Setting up the trust

How to name the tust as the IRA beneficiary

Step 3
The IRA owner has died

Implementing the IRA trust

Things that must be done by the beneficiary after the death of the IRA owner