Trust with IRA

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kolea
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Trust with IRA

Post by kolea » Thu Mar 14, 2019 12:34 pm

We are in the final stages of creating a trust. Main purpose of the trust is to take care of some family members who are terrible with money but it is also for us in the event we become incapacitated, like Alzheimer's.

The difficulty I am having with the trust is (a) how to keep it simple, (b) what to do with a large IRA, (c) avoiding trust income taxes which are substantial.

When a trust is meant to survive for a number of years after the death of the Grantors, it gets tricky to manage in a tax efficient manner, especially when there is an IRA involved. I was hoping to name a family member as Trustee (and compensate her) rather than have a pro do it at some exorbitant fee. But I am afraid that it is getting too complicated and the Trustee will have to hire a pro to manage it.

I spent considerable time researching whether to do a Roth conversion and at this point it is not worth it for us (I am 68) but would definitely make the trust simpler.

My question is whether anyone faced a similar situation and how you worked it out.
Kolea (pron. ko-lay-uh). Golden plover.

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celia
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Re: Trust with IRA

Post by celia » Thu Mar 14, 2019 1:17 pm

kolea wrote:
Thu Mar 14, 2019 12:34 pm
The difficulty I am having with the trust is (a) how to keep it simple, (b) what to do with a large IRA, (c) avoiding trust income taxes which are substantial.
(a) By definition, a trust is not "simple" because of all the possible circumstances you want to account for. If it is too simple, it likely will not meet your wishes.

(b) You can make the trust be the beneficiary, but if you keep the IRA in one piece, it will use the age of the oldest beneficiary for all RMDs. If the age gap between oldest and youngest beneficiary is large (especally if different generations are involved), you want to consider if the IRA should stay in one piece or be broken up for each person.

(c) Yep, taxes on irrevocable trusts are high, so you may want tax-free income, such as tax-exempt bond funds. But you may not want much of them when living. So maybe you can direct the trustee to invest in assets that give less taxable income after you die.

bsteiner
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Re: Trust with IRA

Post by bsteiner » Thu Mar 14, 2019 1:37 pm

There are some special requirements for trusts that receive retirement benefits. So each beneficiary will have two trusts, one for his/her share of the retirement benefits and one for his/her share of the other assets. See my article on this in the March 2004 issue of BNA Tax Management's Estates, Gifts & Trusts Journal: https://www.kkwc.com/wp-content/uploads ... 132954.pdf.

As you point out, the trustees will have to choose between distributing the IRA distributions to save income taxes and retaining them to maintain the asset protection of the trusts. They can decide each year how much to distribute, taking into account income taxes and whatever else they deem relevant.

A Roth conversion avoids this tradeoff. So you may want to consider doing some Roth conversions. If you don't want to bunch the income in the year you convert, you might convert some each year, staying within whatever tax bracket you want, and perhaps retaining some assets in your traditional IRA to take advantage of your lower brackets in later years or to use against medical expense deductions. Note that for a joint return the 24% bracket goes up to $321,450, so you may be able to do a substantial amount of Roth conversions at 24% or less. See my articles on this in the April 2013 issue of Trusts & Estates, https://www.kkwc.com/wp-content/uploads ... r_ATRA.pdf, and the June 2018 issue of Trusts & Estates: https://www.kkwc.com/wp-content/uploads ... ations.pdf.

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kolea
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Re: Trust with IRA

Post by kolea » Thu Mar 14, 2019 2:41 pm

celia wrote:
Thu Mar 14, 2019 1:17 pm
(b) You can make the trust be the beneficiary, but if you keep the IRA in one piece, it will use the age of the oldest beneficiary for all RMDs. If the age gap between oldest and youngest beneficiary is large (especally if different generations are involved), you want to consider if the IRA should stay in one piece or be broken up for each person.
If we break up the IRA into pieces, beneficiaries could then inherit the entire piece? The Trustee can do that?
Kolea (pron. ko-lay-uh). Golden plover.

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celia
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Re: Trust with IRA

Post by celia » Thu Mar 14, 2019 10:23 pm

kolea wrote:
Thu Mar 14, 2019 2:41 pm
If we break up the IRA into pieces, beneficiaries could then inherit the entire piece? The Trustee can do that?
I'm not a lawyer and not sure how to answer this. The trustee is supposed to follow the directions in the trust.

The problem with listing the beneficiaries as beneficiaries on the IRA directly is that they could then take out all the money in the first year, which sounds like you don't want. They will also be able to name their own beneficiaries. Therefore, it seems like a trust/ trustee would be able to do what you would do if you were still alive, assuming you can define it properly. One problem to keep in mind is that your assets may not look anything like they do today. Maybe you will have spent everything on your own care while living. Or maybe you will inherit a large sum from someone else and your estate becomes multiples bigger than it is today. You just never know.

FBN2014
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Re: Trust with IRA

Post by FBN2014 » Mon Mar 18, 2019 10:21 am

To minimize possible trust tax liability you don't want the trustee or portfolio manager (if the trustee hires a separate financial advisor) to be actively trading stocks or mutual funds. A typical Boglehead passive portfolio with index funds and index ETFs will keep capital gains to a minimum. The trust should allow interest, dividends, and gains to be distributed to the beneficiaries so that they are taxed at the lower personal rates. IRA stretch provisions should be utilized so that the IRA distributions and taxes are minimized. Check with your IRA custodian to make sure that they will allow the stretch. Many custodians are not set up for the stretch and will mandate that the IRA be distributed within 5 years. That was an issue that I faced as trustee. There are also IRS deadlines that the trustee needs to meet in order to set up the stretch. Of course if you do the Roth conversion now, all this is a mute point since no taxes are due on distributions.
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