Trust owned Bene. IRA

Submitted by Zachary Matarazzo on Tue, 2022-07-12 15:39

We are dealing with the following situation:
Deceased client had created a trust for his spouse (John Smith Irrevocable Trust.) He named John Smith Irr trust as the beneficiary of his IRA. When client died, beneficiary IRA was established FBO John Smith Trust.

Deceased client’s spouse has been receiving monthly income from bene. IRA via trust since original client’s death. Spouse recently died a few weeks ago. Trust docs state the John Smith Irr. Trust must be terminated and distributed 1/3 each to the surviving children now that the spouse has passed.

What is the impact of this on the Bene IRA Assets (which were FBO the John Smith trust)? Are assets immediately taxable 1/3 each to the children at their brackets? Any opportunity to defer tax with the 10 year rule into kids’ own bene iras?

The trust itself (drafted many decades ago) has no language specifically mentioning IRA treatment. Client’s CPA is unsure as well.

We have never dealt with a trust owned bene. IRA in this manner before. We were not advisors to the client when this was all established.



Submitted by Alan - IRA critic on Tue, 2022-07-12 17:45

When did client pass, and at what age?  Did the trust meet the requirements for “look through”, ie those for a qualified trust?  When did surviving spouse pass?  There are several variables here, notably the dates of death in relation to the Secure Act going into effect in 2020. And the final Regs for the Secure Act are pending with some issues in limbo.



Submitted by Norman Cook on Tue, 2022-07-12 20:11

I am not tax expert but:Since the Trust states Trust docs state the John Smith Irr. Trust must be terminated and distributed 1/3 each to the surviving children now that the spouse has passed. The assets MUST be distributed.  ALL Triditional IRA distributed is tax as ordinaly income.  Roth is Tax free. 



Submitted by Alan - IRA critic on Tue, 2022-07-12 20:43

While the trust assets must be distributed out of the trust, that does not mean that the IRA itself must be distributed. The inherited IRA could be assigned out of the trust to the individual trust beneficiaries, but their annual RMDs (or 10 year rule if applicable) would not be altered by such assignment. Still need the additional info to be able to narrow down the IRA distribution requirements.



Submitted by Norman Cook on Tue, 2022-07-12 23:48

Alan-iracritic wroteThe inherited IRA could be assigned out of the trust to the individual trust beneficiaries.  Could you explain in a little bit more detail the mechanics on how this would work? How could the inherited IRA be distributed to the beneficiaries and still remain an IRA? Is it as simple as distributed shares instead of cash? If it is retitle without the Original owner deceased FBO beneficiary title I understand it will be a taxable event. Is it as simple as replacing the “FBO John Smith trust” with “FBO child one Smith”? But how does this work with the fact that all beneficiaries must be named by December 31st (?) after the owner dies?



Submitted by Alan - IRA critic on Wed, 2022-07-13 00:58

  • The process is the same as if an estate inherited the plan. The estate executor or in the case of a trust, the trustee of the trust provides written instruction to the IRA custodian to accept the transfer of (1/3 of the inherited IRA in this case) to a new inherited IRA titled “Child’s name as beneficiary of John Smith Trust”. The child will then have full control of their own inherited IRA, but must continue the RMD schedule that applied to the trust. Each child will get their own 1099R under their SSN to report distributions.  
  • Unfortunately, some custodians still resist accepting assignments, despite the fact that the IRS has approved this practice for decades and there are a  number of PLRs that clarify this. If the custodian cannot be convinced to cooperate, the trustee can transfer the trust inherited IRA to a custodian that will cooperate with the assignment process. In the case of an estate, this allows the estate to be closed. For a trust the trust provisions must allow the trustee to distribute the assets using trustee discretion if the trust provisions do not require distribution out of the trust. Of course, such assignment terminates any creditor protection offered by keeping the IRA in the trust. 
  • In short, distribution of the IRA and distribution of the trust assets are two entirely separate actions.


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