For many individuals, an IRA is a significant asset and an important part of their estate plan.  Upon death, IRAs are distributed according to the beneficiary designation form.  A mistake on the beneficiary designation form may cause serious negative tax consequences.

If an IRA names the surviving spouse as the beneficiary, the surviving spouse may “rollover” the IRA.  The “rollover” IRA would still be subject to the IRS required minimum distribution (RMD) rules; however, the RMD would be based on the surviving spouse’s life expectancy.  This allows the surviving spouse to maximize the value of the inherited IRA and avoid immediate income taxes.

If an IRA names a trust as a beneficiary, distributing the IRA is usually more complicated presents several options.  First, the trustee may elect a lump-sum payout from the IRA to the trust.  Income taxes would be due on the entire amount and the after-tax balance would be distributed according to the trust.  Second, if the IRA owner had already taken RMDs, the trustee may elect to take distributions over the decedent’s remaining life expectancy, pay income taxes on the IRA distributions, and then distribute the after-tax balance according to the trust.  Third, if the IRA owner died before the required beginning date of RMDs, the entire distribution of the IRA to the trust must be made by the end of the fifth year following the year of the IRA owner’s death.  Finally, if all the trust beneficiaries are individuals, the trust may qualify as a “look through” trust, which allows the trustee to “stretch-out” the RMDs using the life expectancy of the oldest beneficiary.

The IRA distribution rules are complicated and constantly changing.  If you plan to name a trust as a beneficiary, you should consider all the potential tax consequences.

CategoryTrust Litigation

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