Who Should Be Beneficiary of My IRAJacksonville Estate Planning Attorney Provides Information
Who Should Be Beneficiary of My IRA?
How would you like to turn your modest tax-deferred individual retirement account into millions of dollars for your family? With the right answer to the question of “who should be beneficiary of my IRA,” you can keep this money growing in tax-deferred retirement plans for not only your and your spouse’s lifetimes, but also for your children’s or grandchildren’s lifetimes. Proactively working to determine who should be beneficiary of my IRA can cause this result and can turn even a modest inheritance into millions through a stretch IRA. Our Jacksonville estate planning lawyer can help you answer that question to achieve the desired result that fits your estate planning goals and objectives.
Don’t I have to use this money for my retirement?
When you reach a certain age, usually April 1 after you are 70 1/2, Uncle Sam says you must start taking some money distributions out of your IRA. (This is called your required beginning date.) But if you do not use all this money before you die, naming the right beneficiary for your individual retirement account can keep it growing tax-deferred for decades in a stretch IRA.
Doesn’t my beneficiary affect my distribution?
Not any longer. Now, almost everyone uses the same chart to calculate distributions from your individual retirement accounts, even if you have no beneficiary designation. After you die, distributions from your IRA are based on your beneficiary’s life expectancy (or the rest of your life expectancy if you die without one.) Naming the right beneficiary for your IRA is still critical to getting the most tax-deferred growth from a stretch IRA. That’s much easier to do now, because you are no longer locked into the beneficiary designation you name when you take your first distribution from your individual retirement account. Properly answering the question “who should be beneficiary of my IRA” has more flexibility now than ever before. If we can assist you with finding the right answer to that question, please call us at (904) 448-1969, toll free at 1-866-510-9099, or email us at Info@TheColemanLawFirm.com, and complete the form on our Contact Us page. We look forward to helping you answer this important question for you and your family.
How much will I have to take out?
Calculating the amount that must be distributed each year (your required minimum distribution) from your IRA is much easier now than it used to be. Each year, you divide the year-end value of your individual retirement account by a life expectancy divisor from the Uniform Lifetime Table (provided by the IRS). The result is the minimum distribution from your IRA you must withdraw for that year. You can always take out more from your individual retirement account, but your are penalized if you take out less from your IRA.
For example, the divisor at age 70 is 27.4. If your year-end account balance is $100,000, you divide $100,000 by 27.4, making your first required minimum distribution $3,650 from your IRA. Each year the divisor is smaller, but it never goes to zero. Even at age 115 and older, the divisor is 1.9. “To recalculate or not recalculate” is no longer an issue. Everyone now gets the benefit of recalculating his/her life expectancy for purposes of determining the amount to be distributed from your IRA.
Who should be beneficiary of my IRA and what happens if I do not name a beneficiary?
You have five basic options for naming a beneficiary of your IRA: your spouse, if married; your children, grandchildren or other individuals; a trust; a charity; or some combination of the above. If you do not name a beneficiary of your IRA, then you will lose control of the distribution of the IRA at your death. The contract between you and the custodian of the IRA funds will determine where your IRA goes, and your IRA will pay the highest income taxes of all the options you have for naming a beneficiary. The contract between you and your IRA custodian provides where your IRA funds will be paid upon your death if you do not name a beneficiary. Your IRA funds may go to your estate – which is especially a bad choice. Your IRA funds may go to your heirs at law – which also may not be the result you would prefer.
If your IRA funds are paid to your estate, three things happen, two of which are bad news. The first problem is that your IRA will be subject to taxation on the entire amount in the year of your death. The second problem is that, in most states, you will have taken an asset that is not subject to your creditors’ claims at your death, and placed those funds into your probate estate and subjected the funds to the claims of your creditors. That could cause the entire IRA proceeds, other than what is paid to the IRS for income taxes, to go to your creditors instead of your family. Finally, if you do not have a will or trust that provides for the distribution of your estate, the funds will be paid to your heirs at law, as if you had died intestate. In Florida, that typically would require that one half the net proceeds (after income taxes) be paid to your surviving spouse, and one half the net proceeds would be paid to your natural and adopted children, in equal shares. For many blended families that would not be the distribution you would choose. It never has been so important to properly answer the question of who should be beneficiary of my IRA.
Option 1: Spouse
Most married people name their spouse as beneficiary of their individual retirement account. That’s because 1) the money will be available to provide for the surviving spouse and 2) the spousal rollover option can provide many more years of tax-deferred growth through a stretch IRA.
Also, if your spouse is more than ten years younger than you are, you can use a different life expectancy chart that makes your required distributions from your individual retirement account even less. (This lets the tax-deferred growth continue longer on more money for your beneficiaries.). In many cases the answer to the question who should be beneficiary of my IRA is going to be the spouse.
How does the spousal rollover option work?
If you die first, your surviving spouse can “roll over” your tax-deferred account into his/her own stretch IRA, further delaying income taxes until he/she must start taking required minimum distributions from the individual retirement account on April 1 after age 70 1/2.
When your spouse does the rollover, he/she must name a new beneficiary for the IRA, preferably someone much younger, as your children and/or grandchildren would be. After your spouse dies, the beneficiary’s actual life expectancy can be used for the remaining required minimum distributions from the inherited individual retirement account. The results, shown in the chart below, can be phenomenal.
For example, let’s say your grandson is 20 when he inherits a $100,000 IRA from your spouse. Over the next 63 years (the life expectancy of a 20-year-old), the $100,000 IRA can provide him with over $1.7 million in income!
Under current IRS policy, your spouse can do this rollover and stretch out the IRA even if you had started taking required minimum distributions from the IRA before you died. That’s a powerful reason for wanting to make sure you have provided the right answer to the question “who should be beneficiary of my IRA.”
TOTAL INCOME FROM IRA OVER BENEFICIARY’S LIFETIME*
Age 30, Life Expectancy 53.3 Years Value of $50,000 IRA When Inherited by Beneficiary = $526,612 Value of $100,000 IRA When Inherited by Beneficiary = $1,053,225 Value of $500,000 IRA When Inherited by Beneficiary = $5,266,128
Age 40, Life Expectancy 43.6 Years Value of $50,000 IRA When Inherited by Beneficiary = $321,210 Value of $100,000 IRA When Inherited by Beneficiary = $642,421 Value of $500,000 IRA When Inherited by Beneficiary = $3,212,106
Age 50, Life Expectancy 34.2 Years Value of $50,000 IRA When Inherited by Beneficiary = $201,067 Value of $100,000 IRA When Inherited by Beneficiary = $402,134 Value of $500,000 IRA When Inherited by Beneficiary = $2,010,671
* Assumptions: 7% annual return; only required minimum distributions withdrawn. Income subject to income taxes.
What happens if my spouse dies first?
If you don’t remarry, you lose the rollover option. This used to be a problem, because distributions from your IRA after your death would still be based on your and your deceased spouse’s life expectancies. But now you can name a new beneficiary for the individual retirement account, and after you die the distributions from the IRA will be based on the new beneficiary’s life expectancy.
Are there any disadvantages of naming my spouse?
Your spouse will have full control of this money in your IRA after you die and is under no obligation to follow your wishes. This may not be what you want, especially if you have children from a previous marriage or feel that your spouse may be too easily influenced by others after you’re gone.
Also, if your spouse becomes incapacitated, the probate court could take control of this money in the IRA. It could be lost to your spouse’s creditors. And, finally, naming your spouse as beneficiary can cause your family to pay too much in estate taxes on the individual retirement account. (More about estate taxes later.) If any of this concerns you, keep reading.
To learn more about Asset Protection and Estate Planning read The Florida Asset Protection and Estate Planning Blog.
Option 2: Children, Grandchildren, Others
If your spouse will have plenty of assets after you die, if you have reason to believe your spouse will die before you, or if you are not married, you could name your children, grandchildren or other individuals as beneficiary(ies) of your IRA. Because the distributions from the IRA can be paid over your beneficiary’s life expectancy after you die, the tax-deferred growth in the stretch IRA can continue even without the spousal rollover.
Are there any disadvantages?
Anytime you name an individual as beneficiary of your IRA, you lose control. After you die, your beneficiary can do whatever he/she wants with this money in the IRA, including cashing out the entire IRA account and destroying your carefully made plans for long-term, tax-deferred growth of the IRA for the benefit of your named beneficiaries of the IRA. The money in the IRA could also be available to the beneficiary’s creditors, spouses and ex-spouse(s). And there is the risk of probate court interference at incapacity. If any of this concerns you, consider using a retirement plan trust as the beneficiary of your IRA. This may be one of the most important reasons for answering the question of who should be beneficiary of my IRA by naming a properly drafted trust as the beneficiary.
Option 3: Trusts
Naming a retirement plan trust as beneficiary of your individual retirement account will give you maximum control over your tax-deferred money in the IRA after you die. That’s because the distributions will be paid not to an individual, but into a retirement plan or IRA trust that contains your written instructions stating who will receive the money from your IRA and when.
While you are living, the required minimum distributions from the IRA will still be paid to you over your life expectancy. After you die, the required distributions can be paid from the IRA or retirement plan to the trust over the life expectancy of the oldest beneficiary of the IRA or retirement plan trust.
The trustee can withdraw more money from the IRA if needed to follow your instructions, but the rest can stay in the individual retirement account and continue to grow tax-deferred as a stretch IRA. You can name anyone as trustee of the IRA or retirement plan trust, but many people name a bank or trust company, especially if the retirement plan or IRA trust will exist for a long period of time.
Are there any disadvantages?
You will not be able to provide for your spouse and stretch out the tax-deferred IRA growth beyond your spouse’s actual life expectancy. That’s because you must use the life expectancy of the oldest beneficiary of the retirement plan or IRA trust which, in this case, would probably be your spouse.
Finally, the IRA or retirement plan trust must meet certain IRS requirements, including that it is a valid trust under state law. It is advantageous to create an irrevocable Retirement Benefit Trust, also called a Stand-alone Retirement Trust, and to name this trust as the beneficiary of your IRA on your individual retirement account’s beneficiary designation form. More options to consider for answering the question who should be beneficiary of my IRA.
Option 4: Charity
If you are planning to leave an asset to charity after you die, a tax-deferred IRA account can be an excellent one to use. That’s because the charity will pay no income taxes when it receives the money from the IRA, and the individual retirement account will not be included in your taxable estate when you die, reducing the amount your family may have to pay in estate taxes. (More on estate taxes later.)
Option 5. Some or All of the Above
You don’t have to choose just one of these options. You can divide a large IRA into several smaller ones and name a different beneficiary for each IRA. (If your money is in an employer’s plan, you can roll it into an IRA and then split it.)
If you name several beneficiaries for one IRA, the oldest one’s life expectancy will determine the payout after you die. But with separate IRAs (one for each beneficiary), each life expectancy will be used, providing the maximum stretch IRA.
This is especially important if a charity is named as an IRA beneficiary. A charity has a life expectancy of zero, so the IRS would consider it the oldest beneficiary of the IRA. Depending on when you die, this could cause the entire IRA to be paid out in just five years rather than allowing the stretch IRA to be distributed over the life expectancy of your children or grandchildren as beneficiaries of the IRA.
If you divide your IRA now, you will need to calculate a distribution for each IRA, but it can be worth the trouble. Under the new rules, your IRA can be divided even after you die. Splitting a large IRA can also save estate taxes. You should consider all of your options for who should be beneficiary of my IRA, and then review your decisions periodically to determine if circumstances have changed, and therefore you need or want to change the beneficiary of your IRA.
What are estate taxes and why should I care?
Estate taxes are different from, and in addition to, income taxes. When you die, your estate must pay estate taxes if its net value (including your tax-deferred IRA accounts and other retirement plan accounts) is more than the amount exempt at that time. The estate tax is based on assets owned at death that are over the exemption amount. Currently, the exemption amount is $5.45 million for each individual, and the estate tax rate is 40%. Some states also have their own death or inheritance tax.
Estate taxes must be paid in cash, usually within nine months of your death. If money must be withdrawn from a tax-deferred individual retirement account to pay the estate taxes, the result can be disastrous because income taxes must be paid on the money that is withdrawn from the IRA to pay the estate taxes. One of the advantages of naming your spouse as the beneficiary of my IRA is that there is a marital deduction allowed for amounts of the estate that are designated for the surviving spouse, and the estate tax will be deferred on those amounts until the surviving spouse’s death. Estate taxes add a new level of complexity to the estate planning process and to answering the question of who should be beneficiary of my IRA.
What can I do about estate taxes?
You can reduce your taxable estate through effective estate tax planning. Estate planning options include giving some assets to your loved ones now, often at discounted values. You can buy life insurance to pay estate taxes at a reduced cost. And, if you are married, make sure both you and your spouse utilize your estate tax exemptions.
You see, everyone is entitled to an estate tax exemption. But many married couples who fail to do proper estate planning waste one of the spouse’s exemptions when they leave all their assets outright to the other spouse. The marital deduction lets you leave your spouse an unlimited amount of assets when you die and pay no estate taxes at that time. But when your spouse dies later, he or she will only be entitled to one exemption. That can cause your family to pay hundreds of thousands too much in estate taxes when proper estate planning could easily have avoided that result.
How can splitting my IRA help?
Any assets you own, including a tax-deferred individual retirement accounts, that you leave to anyone other than your spouse (your children, grandchildren or a trust) can use your exemption. Splitting a large IRA into smaller IRAs will make this easier to do.
What if I’m not married?
If you are single, naming your IRA beneficiary(ies) will be less complicated because you have just one estate tax exemption and there will be no spousal rollover option to consider. It remains important that you properly answer the question of who should be beneficiary of my IRA.
When can I change my beneficiary?
You can change your beneficiary of your IRA at any time while you are living, and the distributions after you die will be paid over that beneficiary’s life expectancy (unless they cash out) as a beneficiary’s stretch IRA.
It is very important to name both primary and contingent beneficiaries of the IRA while you are living to allow for greater flexibility and “clean up” after your death. For example, your spouse could disclaim some benefits from the IRA so a grandchild could inherit the IRA instead and get a longer stretch IRA. No new beneficiaries of an IRA can be added after you die (unless your spouse names new ones with a rollover IRA), so make sure you include all appropriate beneficiaries of the IRA when you complete the beneficiary designation forms. If you would like the assistance of an experienced estate planning attorney in Jacksonville to help make sure you properly answer the question “who should be beneficiary of my IRA,” please call us at (904) 448-1969, or toll free at 1-866-510-9099, or email us at Info@TheColemanLawFirm.com, or go to the Contact Us page and complete the form found on that page. We look forward to the opportunity to help you get the right answer for your circumstances.
If your retirement plan will not let you do what you want, rolling your retirement plan account into an IRA will usually give you more options. If your money is already in an IRA and the institution will not agree to your wishes, move your IRA to one that will.
What about a Roth IRA?
If you qualify, you may want to convert some or all of your tax-deferred money into a Roth IRA. You’ll have to pay income taxes on the amount of the traditional IRA that you convert, but special rules in 2010 can make the conversion more attractive. Also, if you qualify, you can make after-tax contributions to a Roth IRA.
[learn_more caption=”Read More”]Unlike a traditional IRA that requires you to start taking money out on April 1 after age 70 1/2, there are no minimum distributions required during your lifetime with a Roth IRA. And, generally, after five years or age 59 1/2 (whichever is later), all withdrawals are income tax-free. So you can leave your money in the Roth IRA, growing tax-free, for as long as you wish.
You can stretch out a Roth IRA just like a regular IRA. After you die, distributions from the Roth IRA can be paid over the actual life expectancy of your beneficiary. Your spouse can even do a rollover and name a new beneficiary. And, remember, all distributions from the Roth IRA to your beneficiaries will be income tax-free.
Do I need professional assistance?
Yes. Even though the rules are now simpler, they are still loaded with tax traps and penalties. Make sure you get expert advice, from an experienced and knowledgeable estate planning attorney or tax planning lawyer, especially if you have a sizeable amount in tax-deferred IRA or other retirement plans and your estate is large enough to pay estate taxes. If you would like a no-cost, no-obligation consultation with an estate planning attorney at The Coleman Law Firm, please contact us at 904-448-1969 or toll free at 1-866-510-9099, or email us at Info@TheColemanLawFirm.com, or complete the form at our Contact Us page. We look forward to the opportunity to assist you with making your beneficiary designations in a manner that allows you to properly answer the question of who should be beneficiary of my IRA.