A large part of your nest egg is probably vested in an IRA or 401k. At your death, the proceeds from your retirement plan will pass to your named beneficiary(ies) outside your will. In light of a 2014 United States Supreme Court decision, we invite you to take some time and re-visit the topic of Inherited IRAs, addressing the important question: who should be the beneficiary of your IRA? Note: for purposes of this article, all retirement accounts are designated “IRA”.
Let’s look at the issues involved.
In the June, 2014 decision, the United States Supreme Court ruled that inherited IRAs, unlike regular IRAs, are not protected in bankruptcy. If inherited IRAs don’t have protection in bankruptcy, then what about creditors? The answer is that inherited IRAs are probably subject to creditor attachment.
If you are concerned about asset protection for beneficiaries who will inherit your IRA, then consider another option: making a trust your IRA’s beneficiary.
3 key points to help you determine who should inherit your IRA.
1. If you are married, the best IRA beneficiary is your spouse.
• The Supreme Court case does not apply where a spouse inherits an IRA and then “rolls over” the IRA funds into his/her IRA. Note: no other beneficiary has roll over option.
• Your spouse can use the IRS uniform life expectancy table that applies to IRA owners rather than “single life expectancy” table that applies to inheritors, giving the spouse the best stretch (of course, the spouse can always take out more than the required minimum distribution if the money is needed).
• A spouse can convert a regular IRA to a Roth which can add tremendous value to the IRA (this option is not available to non-spouses).
• Even if you set up a trust, consider making your spouse the first beneficiary and the trust the second beneficiary. Your spouse has nine months to disclaim his/her the IRA money, giving a spouse time to meet with financial advisors to determine the best decision. Your spouse and not your trust must be the beneficiary in order to receive the roll over benefit.
2. Most beneficiaries are not going to file bankruptcy and are fiscally responsible. If you have no concerns about bankruptcy or creditors, then leaving your IRA money outright is the easiest way for your beneficiaries to receive an inheritance which can be spread out according to each person’s life expectancy.
3. If you want your IRA beneficiary to be a trust, have a good reason for making that decision. It’s a cost v. benefit analysis.
• Consider the costs involved in relationship to the value of the IRA.
– Not just any trust can be the beneficiary of an IRA. You must retain the services of a qualified attorney to prepare a see through trust that meets IRS guidelines for these trusts. The initial cost to set up a trust will be at least $5000.00.
– Don’t forget the annual costs which include paying a CPA to prepare the trust’s annual tax return. This cost will be at least $750 and maybe more.
– Who will be the trustee? If the money is held with an institutional Trustee, there will be ongoing fees. If the trust is managed by a relative or friend, make sure the relative has the capability of handling the disbursements and working with the CPA.
– All of the money you pay to set up and maintain the see through trust could instead go directly to your beneficiaries.
• If you have enough money in your IRA to justify the cost of setting up a trust, ask the questions “why do I need a trust? What is the benefit?”
– Am I concerned that my beneficiaries will need protection from bankruptcy and creditors?
– Do I want to leave money to minors or grandchildren?
– Do I want to protect my beneficiaries in the event of a divorce?
HERE’S YOUR ACTION LIST. Call us if you want to discuss the issues in this blog further.
1. Review your current beneficiary designation forms.
2. Consider whether you need to change your beneficiary(ies).
3. If you decide to make your IRA beneficiary a trust, find a qualified attorney to create the trust and make sure that the trust is shown as your beneficiary.
Reference Note: The 2014 U.S. Supreme Court case is Clark et ux v. Rameker, Trustee, et al.