Should You Name A Trust As Beneficiary Of Your IRA Or 401K?
The short answer is “Maybe, but don’t do it just because you can. Do it if it’s the only answer to a problem and you know exactly what you are doing.”
IRAs and 401ks will pass on by way of contract to whomever you name as the beneficiaries. They will bypass the probate process and the lawyers involved automatically. A trust does not have to be involved if there is a beneficiary form.
Most of the time, you do not need to name a trust as beneficiary of your IRA or 401k. In fact, it can make things more difficult for the beneficiaries especially regarding Stretch IRAs, taxes and trying to keep the money in the family as long as possible.
There is no tax benefit to naming a trust as beneficiary of your IRA or 401k. The only reason to name a Trust as beneficiary is for personal reasons.
The main purpose of a Trust is to distribute assets exactly how you want. So maybe the following situations would apply to you.
- You have very young children or grandchildren. You don’t think they are capable of prudently managing a big lump sum. A trust will help to distribute your money over a period of years or in a way you see fit.
- One of your children or grandchildren has a drug or gambling problem, or maybe just spends money like a drunken sailor. Getting a big lump sum could be trouble for them. So with a trust you can manage the distributions how you want.
- To force a Stretch IRA. If you want to make 100% sure that your beneficiaries will only take the Required Minimum Distributions and Stretch the IRA over their lifetimes, a trust can be set up to do that.
If the above situations apply to you, then using a trust might be the right thing to do.
Beneficiary forms OVERRIDE Trusts and Wills, so please make sure everything is coordinated exactly how you want it.
Again, IRAs and 401ks will pass on by way of contract to whomever you name as the beneficiaries. They will bypass the probate process and the lawyers involved automatically. A Trust does not have to be involved if there is a beneficiary form.
Restricted Beneficiary Forms
Most annuity companies have “Restricted Beneficiary Forms” which allow you to get real specific on how you want the assets distributed. And it’s FREE.
Let’s say you have 3 children. You could use a “Restricted Beneficiary Form” like this on your annuity for your IRA or 401k.
- Child One: Designate to get equal payments over 10 years
- Child Two: Can get the money however he wants
- Child Three: Gets $5,000 a year until the money is gone
So in a way a “Restricted Beneficiary Form” on an annuity for your IRA or 401k can act like a FREE trust.
Naming individuals as beneficiaries
For most situations naming individuals as the beneficiaries of the IRA or 401k gives everybody more options.
- Only individuals are considered identifiable “designated beneficiaries” by the IRS for purposes of taking advantage of the STRETCH IRA provision. That means that naming a Trust can screw up the STRETCH IRA for your family. Naming individuals allows them all to take RMD’s based on their own life expectancy. This keeps the IRA growing tax deferred as long as possible.
- Many Trusts have higher tax rates than the individuals that would otherwise inherit the IRA or 401k.
- Naming your Spouse as a Primary Beneficiary instead of the Trust will give your surviving spouse more options on what they can do with the money and deferring income taxes.
Ed Slott and his books are an excellent resource for IRA questions. There is also a lot of great information on the internet if you just Google “Naming Trust Beneficiary of IRA”. Here are a couple good links:
Disclaimer: I am not a lawyer or an accountant. Please consult your attorney or tax professional in addition to anything I mentioned in this article.
Click here (Carl Ostenson) to see more of this author’s articles.
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5 Comments
Very nice piece! Thanks!
Thanks for reading John.
Wish I kinda knew some of this information when we set up my mother in laws IRA now that she has passed away because my husband was the only beneficiary the taxes are ridiculous but I guess you can't get away from paying tax on that $. This stuff is just so complicated!
Hey Robin. Yeah it's tough. If you took the lump sum it's a big tax hit. You may have been able to "Stretch" the distributions over your husbands life expectancy. It's called a "Stretch IRA" . It may be too late to try now though. Thanks for reading and please tell your Mom and Dad I say hi.
Hi. I have a question. First, let me tell you my situation. I’m a single female 44yo. No kids. No husband. I have a 401K and a Revocable Living Trust. I put my sister and my bf 50% each as the beneficiary in my 401K. Since I have no kids, I have no plans of doing the “Stretch IRA”. Based on your writing above, that placing a beneficiary in my 401K will suffice. Will this avoid probate court? Or, having a Revocable Living Trust (whom I place my sister and bf as the Successor Living Trust) recommended to avoid probate court. Also, what taxes are you referring to? NC does not have estate tax or inheritance tax. The only thing I can think of in terms of taxes are early withdrawal tax when 401K is withdrawn in lump sum before age 651/2 yo and 10% penalty tax.