If you have any type of retirement account — a 401(k), IRA or pension—estate planning for these accounts is critical.
Inherited Retirement Accounts.
For tax purposes, retirement accounts are considered to be “income in respect of a decedent.” As such, any amounts withdrawn from non-Roth accounts are subject to income tax at the beneficiary’s ordinary income tax rate.
When it comes to inherited retirement accounts, not all accounts are treated the same. Inherited employer-sponsored plans, like 401(k)s and pensions, often have more limitations and requirements than do inherited IRAs. For example, employer-sponsored plans frequently require that the account be withdrawn within five years of the account owner’s (i.e., decedent’s) death. The withdrawal must be taken even if the beneficiary does not want or need to take the money out. All withdrawals by the beneficiary are subject to income tax.
Inherited IRAs, on the other hand, can almost always be stretched out over the life expectancy of the beneficiary. This allows continued tax-deferred growth in the account. It can also reduce the beneficiary’s immediate tax liability.
Passing on a retirement account to your beneficiaries by way of a trust provides increased protection and flexibility. When you have trust that is specifically designed to receive retirement account balances, this allows the account to continue growing on a tax-deferred basis for as long as possible. It also protects the inherited balance from the beneficiary’s creditors. However, because of the income tax treatment of inherited retirement accounts, these type of retirement trusts must be carefully drafted. If not done correctly, they can require the entire inherited account balance to be paid out within five years of the account owner’s death—completely defeating the purpose of creating the trust in the first place. As a result, it is important that you consult with experienced trusts and estates counsel.
Experienced Trusts and Estates Counsel in Arizona.
If you want to put an estate plan together that is customized for your needs, call us. We are experienced trusts and estates attorneys. We offer free consultations. We have offices in Sedona, Arizona and we serve Verde Valley and all of Arizona. Call us at 928-282-1483 or connect with us on Facebook , Twitter or LinkedIn.