Inherited IRA Trust Question

Submitted by Baird Wealth Planning on Wed, 2020-07-08 20:54

I have a client who passed away in 2019, and the primary beneficiary was the spouse who is predeceased. The contingent beneficiary is the Revocable Living Trust. In January, the trustee receives a check payable to the Trust equal to the balance less 20% withholding. The trustee has not yet deposited the check into the trust account because he would like to create an inherited IRA FBO trust to utilize the 10 year spread. Since the check was not cashed yet, can this be done or no, since the check is considered constructive receipt and non-spousal IRAs are not allowed indirect rollovers?



Submitted by Alan - IRA critic on Wed, 2020-07-08 21:48

  • The latter. In addition, the Secure Act does not apply here because client passed prior to 2020.  This distribution should not have been requested or made since it will result in a lump sum tax bill for the trust, probably passed through to the trust beneficiaries, who will probably not be happy unless the balance is small and not worth stretching.
  • If the distribution had not been made, the IRA could have been stretched over the longer of the remaining life expectancy of decedent (assuming they passed after RBD), or the oldest beneficiary of the trust, if the trust was qualified for look through.
  • It is also not clear why 20% was withheld since this is an IRA, not a qualified plan. Perhaps the trustee requested 20%. Now the IRS has withholding that cannot be passed through to the trust beneficiaries to cover their individual tax liability. Not sure how the trust will get credit for the withholding unless there is income to be accumulated in the trust and the trust will owe taxes on it.

Submitted by [email protected] on Thu, 2020-07-09 14:15

I’m sorry – the lump-sum was paid from a 401k plan, not an IRA, which is why the 20% was withheld. But it sounds like the trust constructively received the payment since the check was received so they are stuck with paying the tax this year.

Submitted by David Mertz on Thu, 2020-07-09 14:54

  • Since a payment made to the trust from a 401(k) is not eligible for rollover to an IRA, there is no mandatory 20% tax withholding and none should have been withheld.  Default 10% tax withholding would apply, trustee of the trust should have been able to decline the withholding.
  • Since the credit for the tax withholding cannot be passed through on a Schedule K-1 to trust beneficiaries, it seems that the trust must remain open to receive any tax refund and distribute that to trust beneficiaries the following year.

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