IRAs and Revocable Living Trusts
When you pass on, you want your loved ones to get your assets in the most cost-effective, time-efficient manner possible. To accomplish this objective, you may be looking to avoid probate and placing a majority of your assets into a trust, including the funds in your IRA account.
The risk associated with directing traditional IRA fund into in a trust is a large tax bill from the IRS. The vast majority of “traditional” IRAs are funded with pre-tax financial contributions. This means any growth in your IRA is not subject to taxation unless you withdraw the funds early. Another common provision is a requirement that your beneficiaries begin withdrawing money from the IRA following your death.
However, when the designated beneficiary of your IRA is a trust, the rules and regulations concerning mandatory withdrawals become more complex requiring additional administrative oversight and management. For example, if you have an IRA worth $250,000 and you leave that IRA to a trust set up for the benefit of your daughter. If your daughter is the only designated beneficiary, then your daughter’s life expectancy will determine the amount that must be withdrawn from the IRA each year until the account is depleted. However, if you have multiple beneficiaries (e.g., multiple children, siblings, friends, etc.), the life expectancy of the oldest beneficiary will dictate the withdrawal timeline. This might put the younger beneficiaries at a disadvantage, in that their distributions will be larger, and therefore subject to higher tax rates.
Another consideration is if you list a non-individual as a trust beneficiary. For example, you designate a non-profit or charitable organization as a beneficiary. If this is the case, then the IRA account will need to be liquidated. If that happens, income taxes will be owed since those distributions will now be subject to federal income tax.
The Polaris Law Group Difference
To address the tax issues described above, some law firms might recommend setting up a “conduit trust” or “discretionary trust.” In both scenarios, the required minimum distributions from your IRA do not pass directly to your designated beneficiary. Instead, they pass directly to the trust.
However, there is a better way.
The National Network of Estate Planning Attorneys and Polaris Law Group have tools we’ve developed to get around the issues with discretionary trusts. For example, we have a tool within our estate plans which allows a beneficiary to retain their inheritance within a trust, so that they can protect their inheritance from such things as divorce, creditors, or medical bills, yet the taxes that are to be paid will be taxed at their individual tax rate. This saves the beneficiary enormous amounts on taxes, yet allows the beneficiary to use their inheritance for themselves without the concern that it might be taken from them. We also have planning tools designed to ensure that the withdrawals from the IRA are not based on anyone’s life expectancy except the individual themselves.