One of my client recently shared this article with me: Turn an Inherited IRA Into a Family Fortune. As the article correctly points out, if you inherit an IRA (or a 401k or some other tax-advantage retirement account), you need to be careful what you do with it. If you withdraw the whole amount, you will face a nasty surprise come tax time. Instead, your best bet is almost always to keep the account as an inherited IRA, take the minimum distributions each year, and keep allowing the IRA to grow for your own retirement.
But the article points out some issues with planning for how you pass an IRA on to your kids. Your main choices are to name the kids as the beneficiaries directly, or to name your trust as the beneficiary. Both have pros and cons.
If you name your children as the beneficiaries directly, the children can make the mistake of withdrawing all the money immediately. They will pay a ton in taxes and can spend the money however they want. If they follow the guidance in the article, keep the money invested, and withdraw only the required annual minimums, the account could grow to be quite significant.
If you instead name your trust as the beneficiary, you will have the trustee manage the retirement account for the benefit of one or more of your kids. The advantage is the trustee will manage the money sensibly, and will keep the money in the IRA as long as possible, resulting in the best financial outcome for the kids. The problem is that, if the trust is not properly prepared to “catch” retirement benefits, you can actually make the problem worse. Instead of allowing your kids to get the maximum benefit, the trust can be forced to withdraw the money from the account and pay that giant tax bill.
So what to do? If you have no concerns at all about your kids making the right choice, you can go ahead and name them as beneficiaries. If you do have concerns, you should name a properly designed trust as the beneficiary. Don’t know if your trust fits the bill? Or maybe you don’t have a trust and need one? Call Learned Lawyer for help and guidance today.
