Understanding the difference between IRA & Designated Beneficiaries
IRAs have beneficiaries and “designated beneficiaries,” and it is important to know the difference. If you wish your heirs to have the opportunity to take full advantage of “stretch” IRAs, and to avoid other possibly costly mistakes, be sure your heirs are designated beneficiaries. Here’s the difference and why it matters.
The beneficiary that inherits an IRA can be an individual or a legal entity such as a charity or an estate. But a designated beneficiary must be a living person ‘with a pulse’ who is named on the beneficiary form of the IRA.
The major advantages of a designated beneficiary are:
Distributions from inherited IRAs can be stretched over a designated beneficiary’s lifetime, possibly allowing decades of tax-favored investment returns to be earned in the IRA.
The IRA passes directly to a designated beneficiary, escaping complications like probate.
By Beverly DeVeny
Copyright Ed Slott, LLC
Most people think it is easy to leave an IRA to their heirs. But is it? The following is a quick IRA beneficiary quiz. How many of these beneficiary questions can you get correct? The answers are at the end of the quiz.
1. The IRA owner has four children. He names the oldest child as the beneficiary of his IRA and the executor of his will which divides all his assets equally among the four children. Who gets the IRA?
2. The IRA owner has met with an attorney who recommends that he establish a trust for his spouse and that he names the trust as the beneficiary of his IRA. Who gets the IRA?
Clients often ask if they should leave their IRA to their trust. This can be a complicated question. Trusts can be complex and retirement accounts are not like other assets. IRAs are subject to a very rigid set of rules under the tax code. Seek help from an advisor that is very familiar with all the rules in this area, especially the requirements for a trust to be a qualified see-through trust. Meeting these requirements is the only way the valuable “stretch” advantage can be used by trust beneficiaries.
Trusts Offer Control
Naming a trust as an IRA beneficiary requires extra steps that will cost clients both time and money. An attorney will need to be consulted to draft the trust. Clients will want to be sure that the attorney they choose has extensive knowledge of the very specific area of the law where retirement plans and trusts intersect.
For some, this extra effort will be worth it. Naming a trust as the beneficiary of an IRA gives the IRA owner a high level of control over his or her retirement assets after death. This is why a trust can be a good strategy in second marriage situations, when young children are involved, or when intended beneficiaries cannot manage their finances well.
Retirement planning is complicated. It’s a personal and situational endeavor with plenty of possible pitfalls in the way of success.
As a beneficiary of a trust named as a beneficiary of an IRA, you may find yourself with many questions and concerns. The rules are different for a trust beneficiary than they are for a spouse or non-spouse beneficiary. Arm yourself with working knowledge of some of the Do’s and Don’ts, and work with a competent, educated financial advisor to keep more of your assets and lose less to taxes and unnecessary fees.
Article Credits: Copyright Ed Slott and Company 2014 | By Beverly DeVeny, IRA Technical Expert
The “I” in IRA stands for individual. Here are 5 things you 100% can never do with your IRA.
1. If you are married, you cannot treat the IRA as a joint asset – even if you live in a community property state. Contributions must be made on an individual basis. Spouses cannot add their contribution amounts together and then allocate the contribution between their respective IRAs.