What is an IRA Trust and when do I need one?
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What is an IRA trust, and when do I need one?
by Phelps LaClair Law
It is easy to become confused when it comes to estate planning. There are many tools available and advice on the best way to use them. You may have heard colleagues, family members, or friends talk about creating an IRA inheritance to pass the remaining account balance to their grandchildren when they die. You may be wondering if the remainder of an IRA will automatically avoid probate if it is properly designated. Do I need an IRA Trust?
First we will go over what an IRA Trust is and how it works. You may then understand why someone might choose it. We’ll then discuss how it can be a valuable tool to protect the inheritance you leave your children or grandkids. What is an IRA Trust exactly?An IRA inheritance trust
IRA trust, is a trust designed specifically to hold retirement funds. Many of our clients’ company retirement plan or IRA are their biggest financial assets. It’s usually the second largest asset in their estate after their home. Because an IRA is such a significant asset, it’s vital to plan ahead so you can maximize its benefits.
Here are some quick answers to the two most common questions:
Can you place an IRA in a trust?
No–that’s not exactly how trusts and retirement accounts work together. It would be more appropriate to ask, “Can I name a Trust as the Beneficiary for my IRA Account?” The answer is yes! How do I know if an IRA Trust is needed?If your goal is to ensure that the remainder of your IRA account can be used for certain beneficiaries, an IRA Trust might be necessary. An IRA trust can be a good option when the intended beneficiaries have special needs or are minors. You can leave specific instructions about the distribution and management your IRA funds. What Are the Benefits Of An IRA Trust?One benefit of an IRA trust is that it allows you to protect your funds by naming a trustee as the beneficiary, instead of a person. This prevents creditors from claiming the assets. If you name a beneficiary for your IRA, the creditor of that individual may be able claim the funds. A bankruptcy proceeding
could, for example, put an IRA inheritance at risk. The Supreme Court ruled that IRA funds should not be protected by federal law. Arizona, however, has a state law that protects IRA beneficiaries against all claims from creditors. If you live in Arizona but your IRA trust was started in another state, it
could be at risk
.
Another benefit of an IRA trust is that you can control the distributions. You can decide when and how beneficiaries receive funds. This is especially beneficial for those who are financially challenged or have young children. If your beneficiary is not financially savvy, you can hire a
professional trustee
who will ensure that the assets are handled properly.
What Are the Rules for an IRA Trust?
In order for your IRA inheritance trust to be legally recognized as a valid beneficiary, it must meet the following conditions:1. The IRS requires the trust to qualify as a “look-through” or “see-through” trust. The trust beneficiaries must be alive and identifiable so that their life expectancy can be determined. This allows the account to benefit from the IRA stretch strategy where distributions are spread over the life expectancy for the trust beneficiaries. 2. For example, only individuals, such as spouses and children are eligible to receive IRA Distributions. The trust needs to have the correct documentation. You will have to make sure that the trust has been properly structured and is being executed by a qualified lawyer. A simple trust or will will not be sufficient, and will not hold up in court.
3. The trust must be valid and compliant with Arizona state laws. It is important to work with an estate planning firm or lawyer who is familiar with Arizona trust laws, and can handle complex tax planning. How Do the Taxes Work with an IRA Trust?Understanding all the
tax implications
of IRAs and IRA inheritance trusts can be quite challenging, because they’re complicated and subject to change. We can help you understand the basics. Let’s go over the most important information. Contributions to a Traditional IRA are typically tax-deductible in the year they are made, reducing your taxable income for that year. This is subjected to income limits, eligibility and other factors. The money in the account continues to grow tax-deferred. You don’t pay taxes until you withdraw your money. Contributions to a ROTH IRA, on the other hand, are made after taxes, meaning you pay the tax when you put the money in. Roth IRAs continue to grow tax free even though these contributions do not reduce taxable income. Qualified distributions from a Roth IRA are tax-free, as long as the withdrawals are made after age 59 1/2 and after at least 5 years of owning the account.
Secure Act RequirementsUnder the SECURE Act, most non-spouse beneficiaries must withdraw the full balance of the inherited IRA within 10 years of the original account holder’s death. This rule applies both to Traditional and Roth IRAs. However, Roth IRA withdrawals tend to be tax-free.
However there is a section of the SECURE Act which allows eligible designated beneficiaries continue to receive distributions throughout their lifetime. Eligible beneficiaries include the surviving spouse of the IRA owner, a minor child, a disabled or chronically ill individual, or individuals who are not more than 10 years younger than the IRA owner.Required Minimum Distributions (RMDs)
Just like individual beneficiaries, the trust must collect the required minimum distributions. If the trust is a “look-through” trust (which is required for IRA Inheritance Trusts), the RMDs are calculated based on the life expectancy of the oldest beneficiary of the trust.Taxation of Funds Inside the Trust
The IRA funds that are transferred to the trust are subject to income tax when withdrawn. The trust, as a separate legal entity will be taxed according to the trust’s rates. These rates are lower than the individual tax brackets. This means that the trust could pay higher taxes if it holds onto the IRA funds for too long before distributing them to the beneficiaries.
When the IRA funds are distributed to the beneficiaries of the trust, the beneficiaries are then responsible for paying income taxes on their distributions. How to Set Up an IRA Trust With Phelps LaClairWhile IRA Inheritance Trusts can offer flexibility and control they must be structured correctly. It must also be updated regularly to keep up with changes in tax laws. You should work with a qualified team of legal professionals when setting up the trust, due to the complex rules that surround IRAs. Phelps LaClair’s experienced tax attorneys understand the IRS distribution rules and are uniquely qualified to offer this groundbreaking trust. The IRS has given a favorable ruling to an IRA Inheritance Trust, a cutting-edge planning tool.
Does your total IRAs, company retirement plans and other assets exceed $150,000? You may benefit from using this estate planning tool.
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or sign up for a
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to receive a free consultation and learn more about our services. We are confident we can help preserve your family legacy.
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– commercial use (12.10.2024). Photo by
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