So You Think You Need to Name a Trust as the Beneficiary of Your IRA?

In two weeks I had three trusts come across my desk that were named as the beneficiary of the account owner’s IRA. The account owner had now died and the universal question was, “Now what?”

The first trust was a Colorado trust. In all fairness, the attorney most likely advised the client not to name this trust as the beneficiary of the IRA, but the client did so anyway, without telling the attorney or the financial advisor. This trust was a recent one; it was drafted in 2015. I’ll give you a hint how it ended – it imploded. Only the master trust was named as the beneficiary, not the sub-trusts. The first sub-trust was a pet trust for her dogs. The next trust was a discretionary trust with special needs language. The last trust distributed outright. Since there is discretionary language, you have to look at all beneficiaries of the trust, so you have to include the dogs in the beneficiary pool. The life expectancy option is lost for all beneficiaries.

The next trust was a 2010 Nevada trust for numerous children. This one started out well. As long as all the children were over age 35, which they were, the trust assets would be distributed to them outright. But, there was language that would compel the trust to use trust assets to pay debts, expenses, and taxes which makes the estate a potential beneficiary of the IRA. However, that can be avoided by paying off those items before September 30th of the year after the IRA owner’s death. Then, the trust added discretionary language, just in case some of the children had various issues in their lives. But wait, there’s more. Now we look to see who all the potential beneficiaries are, and we find that just in case all of the numerous children and their children die and there are still funds in the trust. Those funds go to the IRA owners’ heir at law. A standard clause, but one which destroys the life expectancy option because we no longer know who the IRA beneficiaries are. It could have been easily fixed if the attorney had added language limiting the age of these heirs at law to being no more than the age of the oldest child. Again, the life expectancy option is lost for all beneficiaries.

The last trust was a California trust from 1998 that was amended several times, the last one being in 2015. The grantor had no spouse and no children. The trust had numerous beneficiaries, including several charities. At the IRA owner’s death, these assets were to be distributed outright. This trust works, although it gets very complicated and convoluted. The trust requires the payment of debts, expenses, and taxes from trust assets so the estate also becomes an IRA beneficiary. The trustee is given discretion to hold assets in the trust so you have to look at all beneficiaries remaining as of September 30th of the year after the account owner’s death to determine the beneficiary with the shortest life expectancy. Up to that date, the trustee can “cash out” beneficiaries. Clearly, he would want to pay the debts, expenses, and taxes to cash out the estate. He would also want to cash out the charities. The remaining human beneficiaries inherit varying percentages but all are less than 20%. It seems likely that beneficiaries inheriting small amounts would most likely also cash out. This means that none of the remaining beneficiaries of inherited IRAs would know how to calculate their RMDs until September 30th comes around and the trustee can see who the oldest remaining beneficiary is.

There is one last remaining issue for all of these trusts. They are supposed to terminate and transfer the inherited IRAs out to inherited IRAs for the trust’s beneficiaries. Many IRA custodians will not do this despite over 100 rulings from IRS saying this is allowed. And, IRS has never denied a ruling requesting such a transfer.

I ask again, do you think you need a trust as the beneficiary of your IRA? Be careful, because you may not get what you wished for.