One of the more common estate planning mistakes that I see frequently when reviewing old living trusts that clients of ours bring in are that the trusts fail to include the proper see through language and stretch out language regarding their IRA accounts.
Many people name the trust as the beneficiary of their IRA without thinking through the tax and legal implications of their actions. When you name a spouse as a beneficiary of a living trust, two things can happen. First, if you name the trust as the beneficiary of your IRA instead of your spouse, it MAY result in unnecessary tax consequences for your spouse. When you leave an IRA to a spouse directly as beneficiary, your surviving spouse is allowed to withdraw the IRA over the course of their lifetime pursuant to IRS tax tables regarding required minimum distributions. However, if you leave an IRA to a trust instead of your spouse directly (whatever the reason may be, there are good reasons for naming a trust as beneficiary), your spouse MAY have to begin withdrawing the IRA immediately beginning by December 31st after the year of death. This can result in the surviving spouse not rolling the IRA over into their own inherited IRA.
The reason for this is the lack of correct see through language. This is language in a trust where the IRA, if a trust is named as beneficiary, the IRS will see through to the named beneficiaries so that the IRA is considered the property of the named beneficiaries. This is beneficial if it is a surviving spouse beneficiary as the surviving spouse is allowed to roll over the IRA into an inherited IRA and take RMDs over their lifetime. In addition, the surviving spouse (or non-spouse beneficiary) is allowed to take out distributions at the more favorable personal income tax rate. Without this proper see through language, the beneficiaries run the risk of the IRA not be considered the property of the individual beneficiary, but instead the trust as a whole. The result here are the beneficiaries drawing out the IRA each year (even if a surviving spouse) and the distributions being taxed at the Trust Income Tax Rate.
Another mistake many people make when planning their estates with their IRAs is failure to establish separate IRA Trusts, or failure to have proper mandatory stretch out language in their trusts.
There are many reasons why a family may want to consider this. The family may have adult children with creditor issues, the family may have adult children who are irresponsible with their own personal finances, the family may have adult children who have divorce issues pending, and the family may want to leave the IRA asset to their children with the assurance that it will grow over time.
Without the proper stretch out language through an IRA Accumulation Trust, the adult children beneficiaries would be required to start drawing out the balance of the IRA in that first year following death of the account owner (no later than December 31st).
When planning your estate, do not forget that you need to consider your wishes regarding that IRA that you will be leaving behind. This may not include leaving the IRA directly to your adult children beneficiaries.
If you have questions about IRA trusts or revocable living trusts, please contact our office at (615) 472-2482 for a consultation to discuss your questions and concerns.