Trust as a primary or contingent beneficiary
I have been reading many posts about IRA’s naming a trust as the primary or contigent beneficiary. We get many requests from clients after they have done their estate planning to name a trust as the bene when they have multiple children. I understand why this is done in cases where there is a issue with one of the children (i.e. marriage, drugs, etc.). However, in terms of execution, I am confused. Many custodians require some sort of “exeception” be made to have the assets pass through to the children an to open an inherited IRA in their respective names to allow for the stretch, otherwise their default seems to be the assets are passed to an inherited IRA in the name of the trust. In the case where an inherited IRA is opened in the name of the trust, does this mean that every year the trust distributes the RMD’s based on the oldest child and then k1’s are prepared and given to each child every year so the children are taxed at their bracket and the trust gets a deduction and essentially pays no tax?
Permalink Submitted by Alan Spross on Tue, 2010-10-19 16:33
Basically, you are correct.
There are many variations in the types of trusts, what they are intended to do, and whether they can terminate at some point or not. In the simplest case where the trust is qualified for look through treatment and cannot terminate, the RMDs ARE based on the oldest trust beneficiary, and are passed through the trust with a K1 and taxed at the individual rate. The trust must file a 1041 every year. Note that if IRA distributions are retained in the trust, they are taxed at the much higher compressed rates that apply to trusts or estates.
The IRA cannot be directly assigned to the individual trust beneficiaries until the trust is allowed to terminate under it’s conditions. Those conditions must be the “exception” you are referring to. If termination is allowed, even though a beneficiary can end up with a separate inherited IRA account, the RMD treatment is locked in by the original situation, ie continues to be based on the life expectancy of the oldest trust beneficiary.
Permalink Submitted by Bruce Steiner on Tue, 2010-10-19 20:34
In most cases, if the trust is well drafted, the trustees will have discretion to distribute the income and principal (including any amounts the trustees take or are required to take from the IRA) to or for the benefit of the child or the child’s issue (children, grandchildren, etc.), or to accumulate the income.
That way, the trustees can decide each year how much to distribute to the child (or to the child’s children or grandchildren), taking into account income taxes, and any other factors the trustees think important.
For more on this, see my article on trusts as beneficiaries of retirement benefits in the March 2004 issue of BNA Tax Management’s Estates, Gifts & Trusts Journal: http://www.kkwc.com/docs/AR20041209132954.pdf.