Beneficiary Designations & Irrevocable Trusts: Preserving Your IRA

Your IRA, or individual retirement account, is often one of your most valuable assets. Due to automatic contributions and relative inaccessibility of the assets, though, it also is often among the least monitored. While making plans for your financial future, it is vital to comprehend how your IRA fits into your plan and how best to preserve your assets.

1. Your Will Might Not Govern Your IRA

The situation surrounding Supreme Court case Kennedy v DuPont Sav. & Inv. Plan (2009) gives us one example. William married Liv Kennedy in 1971. William had a retirement plan with his employer, DuPont, and designated Liv as the sole beneficiary of his benefits. During their divorce in 1994, Liv waived her rights to William’s retirement plan, but William failed to change his beneficiary before his death in 2001. When his daughter and executrix, Kari Kennedy, sought payment of his retirement benefits to the estate to be distributed to beneficiaries, the DuPont plan administrator refused. The benefits were instead distributed to his ex-wife Liv, according to the beneficiary designation form. Remember, an IRA is a contract between the employer (or plan administrator) and the beneficiary. When a beneficiary designation is signed, it is the sole designator of distribution of benefits, trumping any other legal documents, including divorce decrees and wills.

2. Always Designate a Contingent Beneficiary

It may be the case that the beneficiary you designate dies before you do, and if you have not named a backup beneficiary, your IRA will be distributed according to the default terms of your agreement. These terms can vary but often result in the IRA turning into an asset of your estate. This scenario would not be ideal, as the retirement account is then subject to probate administration, associated fees, and probable liquidation to be distributed under the terms of your will. The benefits of any tax-deferred compounding would also be lost. For these reasons, you should not name your estate as the beneficiary of your IRA.

3. Review and Maintain a Signed and Dated Copy of Your Beneficiary Designation Forms

As businesses are acquired, merged, and go paperless, your plan administrator is more likely to misplace or misfile your beneficiary designation form. Always maintain a current copy and review it regularly. Use any new life event, including marriage, divorce, and the birth of a child, as a timely opportunity to review your beneficiary designation on file with the IRA plan administrator.

4. An IRA Cannot Be Paid to a Minor Child

Because minors cannot sign the necessary paperwork to open an inherited IRA, manage the investments, or request required minimum distributions (RMDs), they cannot be designated beneficiaries without also naming an account custodian. If you did name a minor child as the beneficiary, court proceedings might be required to appoint a custodian to receive the benefits on behalf of the child.

5. A Trust-Beneficiary Must Qualify as a “See-Through” Trust

A designated beneficiary must take RMDs, which effectively liquidate the IRA over time. These RMDs are calculated on the life expectancy of that beneficiary, so it is problematic if a trust, having no life expectancy, is designated. However, under certain circumstances, a “see-through” trust allows the trust’s beneficiary to become the IRA’s designated beneficiary to stretch the RMDs over the beneficiary’s lifetime.

There are four Treasury Regulation requirements to qualify:

  1. The trust must be valid under state law
  2. It must be irrevocable, or become irrevocable upon the death of the IRA’s original owner;
  3. The underlying beneficiaries of the trust must be eligible to be designated as beneficiaries themselves
  4. A copy of the trust designation must be provided to the plan administrator by October 31st of the year following the original IRA owner’s death.

If all four requirements are met, the RMDs can be stretched based on the life expectancy of the oldest beneficiary of the trust.

Cohen & Burnett is a prominent and renowned Estate Planning and Estate Administration Law Firm that has served the Washington DC metro area for over 25 years. To learn about our legal planning, tax strategy, and estate planning services, please visit our homepage.

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