Taxes/Distribution of IRA in Irrevocable Trust

Submitted by Jane Clark on Mon, 2017-10-23 15:14

My father, who passed away in 2015, had an irrevocable trust that contained his IRA. The beneficiary of the IRA is the irrevocable trust, and my niece, nephew, and I are beneficiaries of the trust. I have spoken with professionals on the optimal way to distribute the assets in the trust, but have received different answers from each source. I am hoping you might be able to provide some advice that will make things clearer.

My father did take his RMD in 2015. Unfortunately, one was not taken in 2016. It is my understanding that this IRA could have been converted to three inherited IRA’s (in my father’s name for the benefit of each of us) if I had taken the RMD and requested it be done by December 31, 2016 (i.e. the end of the calendar year following the year in which he died). Since this wasn’t done within that timeframe, however, I understand that my only option now is to make sure the money is distributed within 5 years of the date he passed away.

I was told by the firm holding the trust that when this money is withdrawn, it will be taxed at the trust fund rate which is very high. After talking with an advisor from this firm, it still wasn’t clear how this would work. An accountant I later consulted told me that once the IRA/trust money is distributed to the beneficiaries according to the trust’s guidelines, the money would simply be taxed as additional income according to each individual’s income tax rate.

Can you clarify for me exactly how this money will be taxed so that I can proceed and be able to explain it to my niece and nephew? Thank you very much for your help.



Submitted by Alan - IRA critic on Tue, 2017-10-24 01:10

  • Many of these questions depend on whether the trust is qualified for look through treatment and also whether the trustee of the trust has the authority to terminate it and if trust income is to be accumulated in the trust or passed through to the beneficiaries. What you posted about setting up individual inherited IRAs by the end of 2016 would not have changed the RMD even if the trust did terminate back then. With respect to the trust being qualified for look through treatment, even if the trust did contain the required provisions, the trust info needed to be provided to the IRA custodian no later than 10/31/2016. Given that not much else was done in 2016, good chance that this was not done either.
  • The 5 year rule only applies if your father passed prior to his required beginning date (4/1 of the year following the year he turned 70.5). Since he was subject to RMDs, most likely he passed after his RBD. For a non qualified trust, the RMDs would be based on his remaining single life expectancy starting in 2016. If the trust WAS qualified, then the RMDs would be based on the single life expectancy of the oldest trust beneficiary. 
  • Please confirm that the trust was NOT part of the IRA agreement (known as a trusteed IRA). These are rarely used, but your first statement raises the possibility that this might be the case here, as well as your reference to a “firm holding the trust”. Who is the trustee of this trust?
  • If this is an accumulation trust, the RMDs and other distributions would be taxed at the higher trust rates. Otherwise, the RMD income can be passed through to the trust beneficiaries on Form K 1 (trust files Form 1041) and reported on their respective tax returns.
  • To be more specific, please clarify the above issues that are not yet clear, and we can narrow this down.

Submitted by Jane Clark on Thu, 2017-10-26 00:01

Thank you so much for taking the time to answer my letter.  Here are more details about the trust that I hope will address the issues that weren’t clear.The trust is an irrevocable QTIP trust that was made in 1994 between my father, as grantor, and my mother, as trustee.  The purpose of the trust was to appoint it as the designated beneficiary of my father’s IRA.  My mother passed away before my father.  The trust terminates upon the last to die of my mother and father.  After this, the trust states that te balance is to be split evenly with my brother and me.  However, my brother passed away before my father, so the trust instructs that my brother’s share be split between his two children.   I am the trustee.  My father was in his eighties and so had been receiving RMDs on a quarterly basis.I hope this information helps.  Please let me know if you have further questions.Thank you very much.

Submitted by Jane Clark on Tue, 2017-10-31 02:34

Please let me know if additional information is needed.  Thanks so much.

Submitted by Alan - IRA critic on Tue, 2017-10-31 03:35

  • The custodian should already have the trust info, at least if the trust is to be qualified for look through. You should work with the custodian to assign the IRA to separate inherited IRA accounts for each trust beneficiary as the trust does not terminate as long as it still holds any assets. Taxation of distributions made to the trust should be passed through to each beneficiary of the trust on a K 1 and taxes would be determined using each beneficiary’s personal tax rate.  Note that the IRA custodian could resist the assignment to the individual beneficiaries. You need to check what their beneficiary clauses state in the IRA agreement. 
  • Would probably be more simple to resist any IRA distributions to the trust unless the assignment to individual IRAs appears to be impossible. Late RMDs can be made up later and Form 5329 filed to get any penalty waived once any late RMDs are made up.
  • However, it is still not clear whether the trust is qualified for look through or not. Was the trust info provided to the IRA custodian by the deadline indicated earlier?  This does not affect who gets the funds, but does determine what the beneficiary RMDs will be. If the trust is NOT qualified, the beneficiary RMDs will have to be based on the remaining life expectancy of your father using Table I and his age at the end of 2015. If he passed in his mid 80s, the IRA would have to be drained in around 7 years starting in 2016. Otherwise, if the trust is qualified and you are the oldest beneficiary of the trust, the RMDs to all beneficiaries would be based on your age at the end of 2016, so the RMDs would be much smaller.
  • You may need some help from a trust attorney in dealing with the custodian if they appear uncooperative, but first you might request a copy of the IRA agreement to see what the beneficiary clause indicates regarding trust beneficiaries when the IRA owner passes AFTER the required beginning date.

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