IRA/401K Beneficiary Titling for Contingent Beneficiaries that are Minors
Thank you so much for all you do to try to help us preserve our hard earned money and ensuring we can CARE about our children’s SECURE future even if Congress doesn’t.
In reading your latest book I am wondering if we have our contingent beneficiaries on our 401K and IRA’s titled correctly to minimize the tax impact to our Minor Children. Prior to the government pulling the rug out from under us and breaking their promise to us it was fairly simple. My wife and I both have wills and in them we named each other as primary beneficiary. For contingent beneficiaries our will dictates that a testamentary trust be set up for our minor children with my wife’s brother as trustee until they are 25. Then they can do as they wish with the money.
Our IRA’s (Traditional and Roth) and our 401K’s and pension beneficiary statements were set up as follows:
Primary: Spouse by Name
Contingent: Some variation of the below with Name being my name or my wife’s:
To the trustee of NAME Testamentary Trust created in Section X of my last will
The NAME Testamentary Trust
Testamentary Trust in Last Will
First, I wanted to find out if that is the best way to title them in the new world?
Secondly, if yes will the testamentary trust qualify as a look through trust or will it be subject to the 5-year rule?
Finally, if it is not the best way to title it to minimize their tax liability what is? Should it just flat out name the minors as contingent beneficiaries or some other recommendations?
We set up the testamentary trust for them until age 25 because we wanted to make sure God forbid something happened that as 18 year-olds they didn’t get a large chunk of money and waste it. However, at this point I would rather them waste it away and get enjoyment out of it than for the government to take it and waste it anyway!!
Again, thank you for everything you do to help us.
Thanks,
Steve
Cape Coral, Fl
Permalink Submitted by Alan - IRA critic on Sat, 2021-05-15 23:24
I am not an estate attorney, but your beneficiary designations as stated appear fine. Of course, you likely understand that the chance of simultaneous death is extremly small, so one spouse will probably be inheriting these accounts eventually, and will have to update their beneficiaries. The surviving spouse will also have the option to disclaim all or part of the accounts they inherit which will convey the disclaimed assets to the trust. If the trust is qualified, and the children are still minors, the RMDs to the trust will be very small and based on the age of the oldest child until that child reaches the age of majority and then the 10 year rule kicks in. The benefit of disclaimer is that the 10 year rule will be started sooner, and maybe more than 10 years sooner than the surviving spouses account’s 10 year rule. Spread out taxable income and access to funds. It is up to you what the testamentary trust provisions are and how much discretion the trustee of the trust will have.
If the trust fails qualification for any reason including failure to provide the trust data to the account custodian by the 10/31 deadline, the 5 year rule will apply if account owner passes prior to RBD, and the remaining single life expectancy of the decedent applies if death is on or after the RBD. Of course, RBD is now based on age 72, but Congressional bills moving in Congress will increase that age to 75 by 2032. All Roth IRA owners are deemed to pass prior to RBD, all the more reason that the trust must be qualified. The requirements for trust qualification are listed in Pub 590 B, p 13.
Unless there is a specific reason to leave the accounts to a trust for beneficiaries over 25, I assume you would change the contingent to name the children outright once the youngest reaches 25.
Surviving spouse should do a direct rollover of any inherited non IRA plan to an inherited IRA if they need the funds prior to 59.5, or to an owned IRA otherwise. If a non IRA beneficiary passes with a qualified plan balance, a lump sum distribution is very likely.
With respect to non spouse inherited accounts (likely IRAs in your case), the pre tax accounts will have 10 or 11 tax years to distribute in amounts that equalize taxable income each year. If these distribution are passed through the trust, in order to partially offset the restricted Secure Act stretch, working children could offset that taxable income by using the distributions to subsidize maxing out their own retirement plans, which will have much longer and later distribution period.
Should any child become disabled or chronically ill will you are living, you might consider a separate SNT as beneficiary for the applicable child, as that would preserve govt benefits while the child is living, and the remaining balance could go to others upon child’s death rather than being subject to govt recovery of benefits paid.
Permalink Submitted by Bruce Steiner on Sun, 2021-05-16 01:47
On the one hand, the benefit of leaving it to the minor child, or to a custodian for the child under the Uniform Transfers to Minors Act, or to a conduit trust for the child where any IRA distributions to the trust have to be paid out to the child (or to a custodian for the child under the Uniform Transfers to Minors Act) is that a minor child is an eligible designated beneficiary (EDB) during minority (which extends until the minor completes a specified course of education, up to age 26). That allows for a longer stretch. However, the child will gain complete control by age 36 at the latest.
On the other hand, the benefit of leaving it in a discretionary trust for the child is the benefits may remain protected in the trust beyond age 36, The tradeoff is that the trust will have to withdraw the entire IRA within 10 years.
Almost all of our clients with minor children have opted for a discretionary trust to obtain the benefits of having the IRA benefits in trust, and are willing to give up the greater stretch in exchange.
We wouldn’t mandate that the trust end at 25. Instead, we would provide that upon reaching 25 (or whatever age the client selects) the child would gain control over his/her trust. For this purpose, control means that the trustee may become a trustee, may remove and replace his/her co-trustee (provided the replacement trustee isn’t a close relative or subordinate employee), and may appoint (give or leave) the trust assets to anyone he/she wants (other than himself/herself or his/her estate or creditors, or in the case of a trust that receives IRA benefits, anyone other than an individual or another trust subject to the same restrictions).
Bruce Steiner
Permalink Submitted by ssel on Sun, 2021-05-16 05:10
Has there been any more clarity given as to what constitutes a “specified course of education”? Does a kid in college count? Does it have to be continuous? Full time status?