It was a great privilege to be able to hear the expert on estate planning for retirement benefits, Natalie Choate, present at the 50th anniversary celebration of the Estate Planning Council of Northeast WI a couple of weeks ago. Some key points of her presentation’s Recent Developments section were:
- Trusts still have great value, even following the enactment of the American Tax Relief Act (ATRA), because of the risk that a surviving spouse will forget to file a Form 706 with the IRS within 7 months of a deceased spouse’s death, thereby losing the portability of the decedent’s estate tax exemption.
- Proposals to require liquidation of retirement accounts within 5 years of an individual’s death are ill-conceived, for several reasons. Essentially, Choate believes such a requirement will not raise tax revenue, will unnecessarily complicate the administration of retirement assets further, and will defeat the purposes for which tax-deferred retirement account legislation was enacted.
- A summary of the effects of ATRA on retirement plans can be found at: http://ataxplan.com/order/pdfs/SRNewDev2013.pdf
Choate also is a fan of the Trusteed IRA — in basic terms, a combination of an IRA and a trust account — because of the greater amount of disability protection these offer over the more common approach of naming an agent under a Durable Power of Attorney to manage retirement accounts. This approach, however, as with any strategy that combines retirement assets with a trust, requires care and attention to detail. Some of the reasons for this are as follows. (See also http://wp.me/p40hbn-S for some additional IRA planning suggestions.)
Naming the right beneficiary for tax-deferred retirement accounts is critical. Most people want to continue the tax-deferred growth for as long as possible, pay the least amount in income taxes and get the maximum stretch-out. Required distributions after the owner dies will be based on the new beneficiary’s age and life expectancy, so the younger the beneficiary (like a child or grandchild), the longer the stretch out.
However, naming a beneficiary outright has several disadvantages. If the beneficiary is a minor, distributions will need to be paid to a guardian; if no guardian exists, one will have to be appointed by the court. An older beneficiary may be tempted to take larger distributions or even cash out the entire account, destroying your plans for continued tax-deferred growth. The money could be available to the beneficiary’s creditors, spouse and ex-spouse(s). There is the risk of court interference if your beneficiary becomes incapacitated, and the extra income could cause a beneficiary with special needs to lose government benefits. If your beneficiary is your spouse, he/she will be able to name a new beneficiary and is under no obligation to follow your wishes.
Naming a trust as beneficiary provides more control over, and protection for, these tax-deferred accounts. Ideally it is a separate trust designed specifically for this purpose; because it must meet certain requirements from the IRS, it’s best if it’s not part of a revocable living trust or other trust. For this reason, these trusts are often called “stand-alone retirement trusts.”
Required minimum distributions will be paid into the trust for the benefit of your beneficiary. The trust can either be mandated to then pay these distributions directly to the beneficiary (called a conduit trust) or it can accumulate these distributions (called an accumulation trust) and pay out trust assets according to your instructions (for example, for higher education expenses, down payment on a home, etc.)
Because a trust is the named beneficiary instead of the individual, no guardian is needed for minor children and there is no risk of court interference at the beneficiary’s incapacity. An accumulation trust will allow the trustee to receive the required distributions and use discretion to provide for a special needs beneficiary without jeopardizing government benefits.
Your beneficiary is prevented from cashing out or taking larger distributions, assuring the continuation of tax-deferred growth. If a conduit trust is used, distributions that are paid to the beneficiary (but not the account itself) would be subject to creditor claims. Thus, for maximum creditor protection, an accumulation trust is preferable.
Finally, successor beneficiaries can be named in the trust document, allowing you to keep control over who will receive the proceeds if your initial beneficiary should die before the account is fully paid out.
For more information about stand-alone retirement trusts, please contact our office.