Congress just changed the law governing IRA distributions. The result is not good for your children.
The law change affects when a person passes away how their IRA transfers to a named beneficiary of a younger generation. Under the old law, the beneficiary could stretch the payments from the IRA over their lifetime. The
non-spousal beneficiary could opt to take only the required minimum distributions over their life expectancy.
The new law is called the Secure Act. Under the Secure Act, inherited IRAs must be distributed within 10 years’
time. The distributions may be made without adhering to any rules such as minimum distributions. The only requirement is that the IRA be emptied at the end of the 10 years.
When IRA funds are distributed, they are taxed as income to the beneficiary. The tax payments can be moderated if the funds are removed thoughtfully during the 10-year time frame. If the funds are taken as a lump sum, the tax bite might be more painful. These tax rules do not apply to Roth-IRAs.
Many families have planned for the distribution of their retirement accounts according to the old law. For example, parents have entrusted their children to stretch the IRA payments over the child’s lifetime to minimize income taxes payable by the child and maximize the benefits of the IRA to the child. That hope is now dashed.
Even more concerning is the planning for children who are spendthrifts, financially challenged, or dealing with mental health issues. Parents have relied upon trust vehicles to protect the IRA. For example, a trust, named as beneficiary of the IRA with a single child beneficiary, could have distributed only the minimum required distribution each year over the child’s lifetime. The child would have access only to that minimal distribution and no more. The “conduit” or “pass through” trust protects the child’s inherited IRA.
The same rules will not apply to trust for persons with disabilities. If the disabled person meets previously set definitions, then the stretch option for lifetime payments is still available.
These new rules do not apply to surviving spouses or persons who are no more than ten years younger than the deceased owner of the IRA. There is also an exception for the rare case that the beneficiary of the IRA is a minor. The real concern here focuses on beneficiaries of a succeeding generation.
The new rules took effect on January 1, 2020. If you have an IRA trust in your wills or living trust documents, now is the time to review those provisions.
Evan J. Krame