Estate planning is one of the most complex areas in law. While many estate plans may not require detailed strategies involving complicated legal concepts, even straightforward plans often involve subtleties and can benefit from thoughtful consideration. Retirement savings make up one component of estate planning, but this piece of the plan can be important in carrying out an overall objective.
Some Key Estate Planning Considerations
Any brief discussion of estate planning issues can only touch the surface. There are, however, several items that you should consider as part of any estate plan that involves your self-directed IRA (SDIRA).
Law changes make a big difference
The SECURE Act of 2019 radically changed the withdrawal options for certain beneficiaries. For example, the previous rules allowed any individual (versus a nonperson) to take annual payments based on the life expectancy of the beneficiary. This was known as a “stretch IRA.” Now, when an IRA owner dies in 2020 or later, many beneficiaries (e.g., adult children of the IRA owner and grandchildren) must deplete the IRA by the end of the tenth year following the year of the IRA owner’s death. Another change involves new rules for trusts with beneficiaries that have special needs (e.g., disabilities that require constant care). Because of these and other changes, IRA owners may want to reconsider how their retirement assets can best be used for their own benefit and for their beneficiaries’ greatest advantage.
Roth IRA versus Traditional IRA?
Determining the right balance between Roth and Traditional IRA assets for your best financial outcome is another important objective. For example, you might have rolled over substantial pre-tax assets from your 401(k) plan into a Traditional IRA. After consulting with a competent advisor, you may decide to convert some of these assets each year to a Roth IRA to achieve this balance. Conversions create tax implications for IRA owners: current taxation on the assets moved to the Roth IRA, but potential tax-free growth—and no required minimum distributions during the owner’s lifetime. For the beneficiaries of Roth IRAs, distributions are usually tax- and penalty-free.
Beneficiary designations are important
On one level, the importance of your beneficiary designation seems obvious: if you want to provide for loved ones, you name them as beneficiaries. But sometimes beneficiary designations have subtle—but critically important—characteristics. For example, IRA assets that pass directly to designated beneficiaries generally bypass the probate process. That is, IRA funds can normally be paid directly to named beneficiaries rather than being paid first to the estate of the decedent—and then divvied up to the estate beneficiaries. If the estate is the beneficiary, then the IRA assets typically must be collected by the estate’s personal representative and distributed from the estate account. This slows down distributions to the beneficiaries and generates more work. Thoughtful beneficiary designations may also fulfill the larger purpose of the estate plan.
Example: Bettie wants to give a portion of her wealth to a charity on her death, and she makes this bequest in her will. She has named her sons as beneficiaries of her Traditional IRA. They will have to pay income tax on any distributions from this IRA. There might be a better way. By naming the charity as a partial beneficiary of her Traditional IRA, Bettie could have changed a normally taxable distribution into one that would not be subject to income tax if paid to an eligible charity. In addition, because the IRA assets would not be subject to the probate process, the charity would likely receive the assets much more quickly.
Well-conceived beneficiary designations can go a long way toward furthering your overall estate plan. On the other hand, certain designations can foil an otherwise solid estate plan. So paying close attention to your choices can yield big benefits.
Three Recommendations
The following suggestions can help you align your self-directed IRA plan with your overarching estate plan.
- Seek sound estate planning advice. Plenty of attorneys will draft a will for you. In fact, you can probably do it yourself after a brief Internet search. But hiring a competent lawyer to integrate all aspects of your long-range plan is likely worth the added expense.
- Review your beneficiary designations regularly. This applies both to IRA and non-IRA designations, and should include a review for life events such as
- deaths in the family (including those of existing beneficiaries),
- births,
- marriage or divorce, and
- any major change in your financial situation.
- Understand beneficiary distributions under the new rules. The SECURE Act and the resulting final IRS beneficiary rules have required some major adjustments from the old rules. Knowing the basics may help you make the right decisions when designating your IRA beneficiaries.
Although estate planning choices do not have to be overly complicated, they are important—and can significantly affect the benefits that your loved ones receive. Mainstar Trust understands the gravity of these choices, and we are here to help. Although we cannot give you estate planning advice, we certainly can explain the IRA rules—and the best way to implement your updated beneficiary designations.