By Allen Giese, CLU®, ChFC®, ChSNC®
Is it a good idea to name a revocable trust as a beneficiary to an IRA? The answer, like so many questions in our world of financial planning, is … it depends. Naming a trust as the beneficiary to an individual retirement account (IRA) can have both advantages and disadvantages, and the decision to do so should be carefully considered based on individual circumstances and goals. Let’s dive into some of the pros and cons.
Advantages
Control. Let’s say you have a son or daughter who, well … it just wouldn’t be a great idea to have them receive a large amount of money all at once. The hard reality is that sometimes our kids don’t make the best choices with their money, or perhaps they have special needs with negative implications around government benefits if they receive assets in their name, or maybe they find themselves in the world of addiction or even have shown themselves to be spendthrifts. Listing them as a direct beneficiary for your IRA, especially a large IRA, could be disastrous, even life-threatening. Having the trust as the beneficiary could literally be lifesaving, as the trust document can specify how, when, and for what purposes beneficiaries receive distributions, ensuring that the funds are managed and disbursed according to your wishes as the grantor.
Asset protection. Suppose the beneficiary of an IRA has a gambling problem and loses heavily on a bet or is a doctor and becomes exposed to a malpractice judgment. Trusts can provide a layer of asset protection for the beneficiary, safeguarding the IRA proceeds from creditors or legal judgments.
Disadvantages
Complexity and cost. Establishing and maintaining a trust involves legal and administrative complexities. Creating a trust document, selecting a trustee, and adhering to the legal requirements can be time-consuming and may incur additional costs. You will want to weigh these complexities against the potential benefits.
New Secure Act rules. Per IRA Retirement Expert Ed Slott, “because of the new rules under the 2019 retirement plan law (the SECURE Act), naming a trust as your IRA beneficiary is not necessarily a good idea. That’s because, in most cases, either the trust beneficiaries or the trust itself will need to pay taxes on the entire IRA balance after 10 years following death.” That could be compounded as trust tax rates tend to be higher than personal rates.
Ed Slott lists a few alternatives to naming your trust as beneficiary in his book Retirement Decisions Guide that you may want to consider:
Name a spouse. Simply naming your spouse as the beneficiary can be an option (assuming it is an option) since spouses can have longer payout periods than an adult child or grandchild.
Convert to a Roth IRA. Roth conversions are now especially important to reduce or eliminate the tax your heirs must pay within 10 years of your death.
Set up charitable trusts. If you are charitably inclined and have a very large IRA, talk to your Northstar Financial Planners advisor and your attorney about charitable remainder trusts (CRTs). A CRT generates an income stream for you as the donor, with the remainder going to your favorite charity or charities.
Naming a trust as the beneficiary of an IRA offers advantages and disadvantages. It may well be the right thing to do, based on your situation. But the decision should be made only after careful consideration of your circumstances and with the guidance of professionals well-versed in estate planning and taxation. Would you like to open the discussion? Let’s talk!
Disclaimer: Hey, some of this article was researched by, and even some of the words were written by, ChatGPT. But fear not, I vetted every sentence, edited a fair amount of it so it reflects how I want to say it, and even added a few thoughts of my own. Embracing the tech!