Trusts and IRA Stretch Accounts (to Minimize Tax Liability)

Minimizing tax liability is not just a financial strategy; it's a way to secure your hard-earned assets for future generations. Many estate planners are choosing to create a stretch IRA to extend the life of their Individual Retirement Accounts (IRAs). Stretch IRAs allow the IRA to be passed on from generation to generation while continuing tax-deferred growth for years or decades after you pass away. 

If you’ve diligently saved for your retirement years over the last few decades and your IRA is now valued at over six figures, a stretch IRA could be a smart way to stretch your assets and ensure a secure future for your loved ones. Attorney Christopher Heritage of Heritage Legal, PC can help you maximize your retirement savings and minimize your tax liability. 

What Exactly is a Stretch IRA?

Stretch IRAs limit the required distributions your beneficiary must take on their inherited IRA. This strategy could help your beneficiary significantly decrease their tax bill. The required distribution rules differ for spouses and non-spouses who inherit IRAs. 

When spouses inherit an IRA, they can wait to take the required minimum distributions (RMD) or roll the funds into their own IRA. When a spouse who inherits an IRA has other income options, waiting to take RMDs can result in a lower tax bill. When using a stretch IRA, the account holder names children, grandchildren, or great-grandchildren as the beneficiaries, not spouses. A stretch IRA can expand the lifetime of the IRA and allow multiple generations to benefit from tax-deferred growth. 

Non-spouse beneficiaries have three main options: empty the IRA and pay taxes on the assets all at once, stretch the withdrawals out, or empty the account within five years. Consequently, stretch IRAs previously worked because younger beneficiaries would have lower required minimum distributions because they have longer life expectancies than spouses. A person could name their youngest grandchild as the beneficiary who could take distributions small enough to trigger only minimum tax liability. In the meantime, the assets in the IRA continue to increase in a tax-deferred way. 

The SECURE Act Limited Stretch IRAs

Unfortunately, the SECURE Act, a significant piece of legislation passed in 2019, has profoundly impacted the use of stretch IRAs. The IRS has implemented stricter rules for non-spouses who inherit an IRA. The Act replaced stretch IRAs with a more stringent 10-year distribution requirement. Currently, beneficiaries of IRAs are required to empty the assets in the account within ten years of the owner’s death. However, the new rules in the SECURE Act do not apply to trusts created by people who passed away before 2020, making it crucial to understand and adapt to these changes.

Who Should I Name As the Beneficiary of My Retirement Account?

The SECURE Act has changed the rules regarding when beneficiaries must withdraw money from retirement accounts. Who you name as a beneficiary will impact how much time the beneficiary has to withdraw funds after you pass away. 

Generally, you can name any individual as the beneficiary of your retirement account. However, if you have an account such as a 401(k) governed by ERISA, you may need to name your spouse as a beneficiary unless they otherwise consent. After the account holder's death, the beneficiary you name will have several options as to how to receive the funds in the account. The IRS categorizes retirement account beneficiaries into different groups, such as eligible “designated beneficiaries” and “beneficiaries.” The type of beneficiary will determine how quickly funds must be withdrawn.

When you appoint a designated beneficiary, including a spouse, a minor child, a disabled or chronically ill individual, or an individual less than ten years younger than you, they must withdraw funds from the account based on their life expectancy. Designated beneficiaries must withdraw the account within ten years. Beneficiaries must withdraw funds within five years. If the beneficiary is a responsible adult, naming them as the beneficiary outright can be beneficial. However, if you want the funds to be transferred to that person eventually but have concerns about them inheriting everything outright, setting up a stretch IRA trust could help you meet your goals.

Creating a Stretch IRA Trust

Creating a stretch IRA trust is a strategic way to stretch out the assets in your IRA while complying with SECURE Act regulations. IRA stretch trusts are designed to receive a person’s retirement account assets after their death. Stretch IRA trusts are different from typical trusts because with a stretch IRA trust, the trustee must determine who the beneficiaries are, and the beneficiaries must withdraw the RMD annually. They can be used for multiple types of retirement accounts, including ROTH, SEP, 475 plans, IRAs, 401(k)s, and 403(b)s. The main function of stretch IRA trusts is to allow the retirement account owner to leave money to a beneficiary tax-efficiently while protecting retirement funds from creditors.

With a stretch IRA trust, trustees name the beneficiaries and then withdraw the required minimum distributions each year. There are two main stretch IRA trust types: conduit and accumulation. Stretch IRA trusts can be funded with other assets in addition to IRAs. Working with an attorney to create a trust can help your beneficiaries enjoy tax savings for as long as possible while protecting young or irresponsible children or grandchildren from overspending, ensuring your hard-earned assets are used wisely.

Contact a Palm Springs Trust and IRA Stretch Account Attorney

Given the recent changes in federal laws governing retirement savings, it's a prudent time to reassess your retirement savings plan. With his extensive experience in estate planning and retirement savings, attorney Christopher Heritage is well-equipped to review your estate plan, including your retirement savings plan. He can guide you in adjusting your estate plan to maximize tax liability with trusts and IRA stretch accounts. Reach out to Heritage Legal, PC today to schedule a case evaluation. 

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