Best way to distribute 401k assets to trust beneficiaries

Submitted by Edward Janecek on Thu, 2017-03-30 17:36

My uncle died, leaving his 401k to his wife, who died six days later. The contingent beneficiary is their look-through trust, and they each have pour-over wills to the trust, which has three persons as beneficiaries. What is the best way to distribute the 401k assets to the three trust beneficiaries while minimizing taxes?



Submitted by Alan - IRA critic on Thu, 2017-03-30 19:33

  • The best way is to have the executor of the wife disclaim on her behalf. The oldest trust beneficiary then will be treated as the designated beneficiary for purposes of RMD calculation. Further, since the trust is qualfied and will be terminated, the trustee could assign the 401k to inherited IRAS for each of the trust beneficiaries and each beneficiary could control their own inherited IRA, although RMDs for all will still be based on the oldest trust beneficiary.
  • Without the disclaimer, the wife’s estate will become the beneficiary and even if the plan will end up with the trust under her pour over will, the result is inferior to the above scenario. The RMDs will be based on the wife’s life expectancy which is probably shorter than the oldest trust beneficiary. Inherited IRAs are not an option since the trust was not the designated beneficiary on the 401k document. RMDs using wife’s remaining life expectancy will be paid to the trust and either passed through the trust to each trust beneficiary or accumulated in the trust at the higher trust tax rate. This assumes that the participant passed after his RBD and wife was younger than participant.
  • Trust provisions will determine the options the trustee has with respect to the plan, mainly with respect to the trust continuing or being terminated. Plan provisions may also limit the stretch allowable by the IRS rules. For example, a lump sum distribution may be required by the plan provisions and that would be costly compared to a disclaimer leading to the trust being treated as a designated beneficiary in which inherited IRAs would be allowed to avoid taxation of the lump sum distribution since the lump sum would be transferred into inherited IRAs instead of being taxable.

Submitted by Edward Janecek on Sat, 2017-04-01 16:22

Thank you for the concise response.  As executor and successor trustee, I plan to disclaim the estate’s interest as you have explained.  However, if 401k plan provisions require a lump sum distribution, what is the next best way to distribute to the beneficiaries while minimizing taxes?

Submitted by Alan - IRA critic on Sat, 2017-04-01 16:50

Be aware that state laws differ with respect to disclaimers filed on behalf of a decedent. It may not be possible in all states or the requirements may also differ to do so. If the distributions to the trust are passed through to beneficiaries annually, it is usually preferable to stretch the IRA as long as possible. But if the trust is qualified and disclaimer is accepted, that would allow you to assign the IRA as separate inherited IRA accounts to each beneficiary of the trust and in that case each beneficiary would make their own call whether to exceed their RMD or not in a particular year. They will be taxed at their individual 1040 rates.

Submitted by Edward Janecek on Sat, 2017-04-01 19:26

I know there are statutory issues with disclaiming, and I hope the disclaimer is accepted, since that is the optimal path.  But I’m a little confused about the term “qualified”, and I have come across conflicting definitions.  The beneficiary trust is certainly a look-through trust, but does that make it qualified, as you have used the term?

Submitted by Alan - IRA critic on Sat, 2017-04-01 19:38

Yes, by “qualified” I meant qualified to be treated as a look through trust for RMD calculation purposes. This requires not only certain trust provisions to be included, but also providing trust information to the plan by the deadline date of 10/31 of the year following year of participant’s death.

Submitted by Edward Janecek on Sun, 2017-05-14 18:22

The 401k administrator (Vanguard) dismissed the idea of a disclaimer, saying that since my aunt was alive when her husband died, she inherited automatically as primary beneficiary, and that when she died, her estate inherited.  As a result, according to Vanguard, a disclaimer by her estate would create unclaimed funds, not revert back to her husband’s contingent beneficiary (the trust).  Does this make sense, or is it hogwash?

Submitted by Ben Meyer on Mon, 2017-05-15 00:47

  • When the husband died, that event automatically started a nine month period, during which any of his heirs or beneficiaries may disclaim anything they are due to receive due his death.  But since the wife (aunt) died six days later, her right to make the disclaimer transitioned to her personal representative (executor), who will still be able to make the disclaimer on her behalf for the remaining time of the nine month period, assuming that this is permitted by state law.  The period for making a qualified disclaimer continues to run for the full nine months even if the potential disclaimant dies before the full nine months has elapsed.  The personal representative, or executor, represents the aunt and can now sign a disclaimer in her place, so long as it is done during the nine month period and in compliance with other requirements for disclaimers under federal and state law.  In some states it may also require approval of the probate court, or may not be permitted by a personal representative after the death of the disclaimant.
  • Once the disclaimer is made, it has the meaning that, for purposes of this disclaimed account, the wife has predeceased the husband.  Therefore, referring to the husband’s beneficiary form, the account would transition to the contingent beneficiaries, since the primary beneficiary predeceased the husband by action of the disclaimer.  In this case, the contingent beneficiary is the trust.  Assuming that the trust is a qualified trust under IRS regulations, the three beneficiaries of the trust would be considered as beneficiaries of the husband’s 401(k), as Alan has described.  However, the 401(K) might require a lump sum distribution or five year payout to a trust as a beneficiary, which would prevent the trust beneficiaries from receiving a full stretch distribution.  In this case a disclaimer might not be worthwhile.  This should be disclosed in the Summary Plan Description or the Payment Rights Notice for the 401(k) plan.
  • So, yes, the response from Vanguard sounds wrong.  It all depends on whether their state law allows a disclaimer to be made by the personal representative and on the terms of the 401(k) plan.  Calling the account “unclaimed funds” doesn’t make any sense either.  It may be that Vanguard is trying to avoid the added complexity or paperwork of handling a disclaimer and qualification of the trust.  A higher level agent should be contacted at Vanguard to straighten this out.  Since you will probably want to have the disclaimer drafted by a lawyer, possibly you can have that lawyer ask for a legal contact at Vanguard if the misunderstanding persists.
  • What disposition is Vanguard saying would be correct?  Without a disclaimer, that is.  Are they suggesting a single lump sum distribution to the wife’s estate? 
  • The pour-over wills should not be needed here with any disclaimers, since you don’t want the account to flow through the estate at all.  There are several questions here.  Possibly Bruce or Alan can also comment.

Submitted by Bruce Steiner on Mon, 2017-05-15 02:51

  • While I haven’t checked all 50 states, I doubt that there’s any state that doesn’t have disclaimers.
  • I don’t know why anyone would name a trust as a beneficiary if the trust immediately terminates.  It would make more sense to name the beneficiaries of the trust (or trusts for their benefit) as beneficiaries of the retirement benefits.
  • Nevertheless, if the benefits are payable to the trust, and if trust qualifies for the stretch, the trustees can transfer the benefits to an inherited IRA.
  • There remains the issue as to whether (since ERISA trumps state law) the plan has to recognize the disclaimer.  

Submitted by Edward Janecek on Mon, 2017-05-15 15:08

Thanks for the succinct advice.  My state (Ohio) allows disclaimers, and the probate court will allow it.  Nevertheless, Vanguard persists in pushing for a single lump sum distribution to the wife’s estate.  I have requested plan documents, but they say they cannot provide them, possibly contrary to ERISA.  On the SEC site, I found an S-8 filing for the plan (American Greetings), and I can’t find a requirement for a lump-sum distribution, nor can my attorney.  I would like to resolve this without a legal battle, but I don’t know how to get Vanguard to be responsive.  Can you tell me if the nine-month period after death is part of state or federal law?

Submitted by Alan - IRA critic on Mon, 2017-05-15 16:03

The 9 month disclaimer period is in the US Tax code, Sec 2518. A murky area with the plan docs is that not all operating procedures of the plan are specified in the docs, so if the plan says nothing about lump sum distributions the administrators continue to push for one regardless under plan operating procedures. These plans do not want to get dragged into any disputed issues with trusts or estates that could get them involved in litigation. Make sure to make it very clear that no distribution is to be made until you get an acceptable response to your questions. Vanguard’s disclaimer statements are particularly suspect.

Submitted by Edward Janecek on Sun, 2017-10-29 15:57

Vanguard continues to be incomprehensibly difficult.  As executor, I obtained a probate court order allowing the disclaimer, and sent it to them with a legal disclaimer plus a letter of instruction which followed the “best way” approach outlined above.  After four months during which I could get no status, their response was a letter which stated “a disclaimer made on behalf of the estate does not change the determination of the rightful beneficiary of the account”.  They view my deceased aunt as the rightful beneficiary, but they are dismissing the disclaimer as irrelevant to the distribution of the 401k.  There is nothing the 401k plan document about disclaimers.  Does their position make sense?

Submitted by Bruce Steiner on Wed, 2017-11-01 22:34

The court merely files the disclaimer.  It doesn’t get to allow it.

Submitted by Alan - IRA critic on Sun, 2017-10-29 18:04

As described, it sounds like they do not want to state that the plan disallows disclaimers, instead inferring that the disclaimer does not result in a change of beneficiary. This makes no sense whatsoever, but there might be an underlying reason that their explanation is superficial and vague. Perhaps the plan has no written provisions regarding disclaimers and they do not want to admit that plan procedural practices are to resist disclaimers. Is your attorney a specialist in both estate and retirement plan issues? If not, you may need one.

Submitted by Bruce Steiner on Wed, 2017-11-01 22:36

It’s not clear, however, that a 401(k) plan has to recognize disclaimers.  ERISA may trump state law.  However, Section 2518(c)(3) may solve the estate and gift tax issues, though it may not help on the income tax side.

Submitted by Edward Janecek on Thu, 2018-02-15 19:11

Well, Vanguard just won’t budge, and they just delay and delay, and then deny.  What about an indirect rollover to another custodian, like Fidelity?  Vanguard has already nixed a direct rollover, and all they will do is a liquidation, with federal income tax withheld.  I know that I’ll need to replace the withheld taxes for the rollover, but is this approach viable?  I’ve had far better luck working with Fidelity, but I haven’t done an indirect rollover to them.

Add new comment

Log in or register to post comments