This posting provides a brief explanation of the advantages and disadvantages of funding a Family Trust (aka Bypass or Credit-Shelter Trust, or Trust B) with an IRA or other retirement accounts.
The Family Trust, as contained in a Will or Living trust, is designed to hold assets of the first spouse to die, up to the amount of the federal estate tax exemption (currently $2 million). It provides support to the surviving spouse, and when the surviving spouse dies, the value of the Family Trust is not included in his or her taxable estate. This plan can save $1 million or so in estate taxes for couples with estates of $4 million and up.
Because of the fact that income taxes have to be paid on distributions from a retirement plan, funding a Family trust with a retirement plan, while advantageous from an estate tax standpoint, can be disadvantageous from an income tax point of view.
If estate taxes are not an issue, the best way to handle a retirement plan is to leave it outright to a spouse, who can then roll it over into an IRA. The spouse can then name the children to received the account at his or her death, and the children can use their life expectancies to take distributions, allowing a "stretch" of the benefits. This allows more tax-deferred growth.
However, if estate taxes are an issue, it is often advisable to have the retirement account paid to the Family Trust, which will allow the account to escape estate tax at the surviving spouse's death. If the trust is designed properly, the survivor's life expectancy is used for purposes of taking distributions, and after the survivor dies, the children will receive the retirement benefits. However, since the trust owned the account rather than the surviving spouse, no further stretch is allowed, so the children must take out distributions over the deceased spouse's remaining life expectancy per IRS tables. (e.g., at age 80, 10 more years or so, as opposed to about 35 years for a 50 year old child.) This means that the income taxes must be paid over a much shorter time period and not as much tax-deferred growth can occur.
The loss of tax-deferred growth is generally worthwhile, however, since the estate tax rate is about 50%, when NC estate tax is added to the 45% federal rate.
In addition to arranging the beneficiary designation correctly, the Family Trust must include special provisions to help ensure the best income tax treatment for retirement plans payable to the trust.
What I advise many clients to do is name the spouse as the first beneficiary, the Family Trust as the second beneficiary, and the children, or their trust shares, as the third beneficiary. At the time of the first spouse's death, the survivor can then decide which option makes the most sense at that time, based on the current value of the couple's assets and the tax laws then in effect. In the event of simultaneous death, the children will be able to avail themselves of the stretch based on their ages.
For large retirement accounts, over $200,000 or so, I generally recommend a Standalone IRA Trust, which can be used for IRAs and other retirement plans.
This is a very complicated area of the law, so you should always consult an estate planning attorney to determine the best way to structure your retirement account beneficiary designations.
One of the important decisions involved in preparing a will is choosing an executor. The executor, called a personal representative in some states, is in charge of the administration of the estate and has many duties and responsibilities. Some of the more important tasks include:
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I'm still in catch up mode from being out a week in early August, which is the reason for my paltry postings of late, but this article on the Chicago Tribune website caught my eye. It describes the financial dangers seniors face by the hands of unscrupulous investment advisers, some of whom who call themselves "estate planners," and others out to defraud the elderly.
Estate planning attorneys can provide a good resource for seniors who are tempted by investment schemes, etc. We can provide objective advice and help investigate the reasonableness of the claims made by those promoting the investment. Attorneys with investment training and credentials can be particularly helpful in this regard.
Money magazine, in a August 2007 article on College Savings Plans, recommended North Carolina's 529 Plan as a good choice for NC residents. NC's plan features:
See my other 529 postings for a more detailed description of the tax rules for 529 Plans.
Having just ridden a motorcycle through the endless farms of Iowa on my way to and from Sturgis, South Dakota, this news item caught my attention. Last month a bill was introduced to defer federal estate taxes on family farms as long as the land is used for farming or conservation purposes. See this article on the Save the Family Farm and Ranch Act of 2007.
While proper estate planning, including the use of life insurance trusts and family limited liability companies, could avoid much of the impact of estate taxes on family farms, I think this bill is a good move to help protect our nation's farmers and their contributions to our food supply.
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