Dangers of Naming the Living Trust As IRA Beneficiary
the last few years we have discovered that the proper
handling of IRAs in an estate plan has become increasingly
more complex. Although IRAs have been around for some
time, they have only recently become a larger percentage
of the taxable estate for many of our clients. It's
not so much the small $2,000 IRA's that have compounded
over the years, it is frequently the larger rollovers
from other qualified plans that have created asset rich
IRAs. If you do not have a significant IRA now, but
are a plan participant in a profit sharing and/or 401-K
Plan, in all probability upon retirement you will "rollover"
to an IRA. In any event, the rules for other retirement
plans are similar to the rules for IRAs.
the last few years we have also discovered that some
individuals are setting up their living trusts, with
or without the help of a lawyer, and arranging for the
transfer of assets to the trust without proper guidance.
This article is an attempt to focus in on the dangers
of naming a living trust as primary or secondary beneficiary
of an IRA.
In larger estates in particular, we find that our clients
are designing plans for the purpose of saving both estate
taxes, and reducing income taxes by allowing for a slow
withdrawal of IRA assets. This frequently results in
the designation of a living trust as a beneficiary.
It is possible for a living trust to be an IRA beneficiary
and have the withdrawal occur over a number of years
based on the income beneficiary's age.
However, there is a little known rule that if you use
an IRA to fund a "pecuniary" bequest to a trust, there
will be immediate taxation of the entire IRA balance.
Many of the living trusts used today have a pecuniary
clause that kicks in upon the death of the person creating
the trust. See Treas. Reg. Sec. 1.661(a)-2(f)(1).
For example, one frequently used clause reads something
like this: "Upon my death the trustee is to set aside
an amount equal to my exemption to be held in trust
with the balance of my estate going to my spouse". If
the IRA were to be paid to this trust after death of
the owner, in all probability the entire balance would
be subject to up front income tax rather than spaced
out over the life of the income beneficiary (unless
the IRA beneficiary designation is specifically to this
post death trust instead of generally to the living
or perhaps, many documents being used today are not
up to the task of saving IRA tax dollars. Part of the
problem can be traced to older trusts. As previously
mentioned, only recently have IRA's grown to a level
that they are now an estate planning challenge, and
the law was less clear just a few years ago. Unless
you periodically check in with your attorney, he or
she is not apt to be aware of the inflation of your
following hyperlink is technical but might be helpful
in your communication with your attorney should you
have a concern about your plan.
Jack Davidson, NHTC Board Member