I came across an unfortunate tax situation this week.
It has to do with IRAs and trusts.
More specifically, naming a trust as a beneficiary of
an IRA.
This carried a bit more punch before the tax law
change of the SECURE Act, effective for 2020. Prior to the change, best
planning for an inherited IRA frequently included a much younger beneficiary.
This would reset the required distribution table, with the result that the
monies could stay in the IRA for decades longer than if the original owner had
lived. This was referred to as the “stretch” IRA. The SECURE Act changed that
result for most beneficiaries, and now IRAs have to distribute – in general –
over no longer than 10 years.
Trusts created a problem for stretch IRAs, as trusts
do not have an age or life expectancy like people do. This led to something
called the “look-through” or “conduit” trust, allowing one to look-through the
trust to its beneficiary in arriving at an age and life expectancy to make the
stretch work.
The steam has gone out of the conduit trust.
One might still want to use a trust as an IRA
beneficiary, though. Why? Here is an example:
The individual beneficiary has special needs. There may be income and/or asset restrictions in order to obtain government benefits.
What is the point, you ask? Doesn’t the IRA have to
distribute to the individual over no more than 10 years?
Well … not quite. The IRA has to distribute to the
trust (which is the IRA beneficiary) over no more than 10 years. The trust, in
turn, does not have to distribute anything to its individual beneficiary.
This is referred to as an accumulation trust. Yes, it
gets expensive because the trust tax rates are unreasonably compressed. Still,
the nontax objectives may well outweigh the taxes involved in accumulating.
There is something about an inherited IRA that can go
wrong, however. Do you remember something called a “60-day rollover?” This is
when you receive a check from your IRA and put the money back within 60 days. I
am not a fan, and I can think of very few cases where I would use or recommend
it.
Why?
Because of Murphy’s Law, what I do and have done for
over 35 years.
You know who can do a 60-day rollover?
Only a surviving spouse can use a 60-day rollover on
an inherited IRA.
You know who cannot do a 60-day rollover on an
inherited IRA?
Anyone other than a surviving spouse.
It is pretty clear-cut.
I am looking at someone who did not get the memo.
Here are the highlights:
· Husband
died.
· The
wife rolled the IRA into her own name (this is a special rule only for
surviving spouses).
· The
wife died.
· A
trust for the kids inherited the IRA.
No harm, no foul so far.
· The
kids wanted to trade stocks within the IRA.
So it begins.
· The
IRA custodian told the kids that they would have to transfer the money
someplace else if they wanted to trade.
No prob. The kids should have the IRA custodian
transfer the money directly to the custodian of a new IRA that will let them
trade to their heart’s content.
· The
kids had the IRA custodian transfer the money to a non-IRA account owned by the
trust.
And so it ends.
The kids were hosed. They tried a Hail Mary by filing
a private letter request with the IRS, asking for permission to put the money
back in the IRA. The IRS looked at the tax law for a split second … and said
“No.”
The IRS was right.
And, as usual, I wonder what happened with calling the
tax advisor before moving around not-insignificant amounts of money.
One can point out that taxes would have been payable
as the kids withdrew money, and an inherited IRA has to distribute. If mom died
in 2020 or later, the IRA would have to be distributed over no more than 10
years anyway.
Still, 10 years is 10 years. If nothing else, it would
have given the kids the opportunity to avoid bunching all IRA income into one
taxable year.
Not to mention paying for a private letter ruling,
which is not cheap.
I hope they enjoy their stock trading.
The cite for the home gamers is PLR 202125007.
