Who gets Your IRA?

Who gets your IRA, or 401k, or 403b or any other “qualified” money if you die? Seems like a simple question with a simple answer. The beneficiaries you name get it. What happens if your spouse is named, and unexpectedly dies when you still have young children? If your children or other intended beneficiaries are young adults going through the potential changes in life such as marriage, or divorce or are not experienced at handling money, could those assets be lost? Even adult children with good judgment cannot control a divorce, or health issues.

A starting point is to name the primary people you want to receive your IRA. At the same time, contingent beneficiaries should be named. Makes sense, but if those contingent beneficiaries are too young to suddenly handle a large windful, or if they are very old and might need long term care, your hard earned IRA savings might be dissipated quickly and not do the good things you wanted for your family. Years ago a Medicaid recipient in a nursing home had a sister in her 90s. The sister had never
married, worked hard, invested and was worth about two million. She never thought to remove her sister as the beneficiary of her IRA’s and she died, so guess where that money went? It reimbursed the state for the living sister’s care expenses.

Every so often it makes sense to review the intended beneficiaries ages, health and marital situation, and ability to handle a sudden windfall of money. For children, the answer may be to name a trust as the beneficiary. That way it is not directly in their names, and a more experienced relative or a professional can invest the funds and pay out the minimum required distributions or more if needed. This should be carefully done, because the trust must be written so it does not trigger an income tax on the entire amount upon your death. If done correctly, the trustee you choose will have to take the minimum required distribution from the IRA account each year, but may also be allowed to accumulate the money in the trust, if that is a wise course of action, rather than paying it at that time to the beneficiary.

The beneficiary designations in a trust can also provide for grandchildren, or great grandchildren, or anyone else you want if the primary beneficiary dies with money still in the IRA. The more money in an IRA, the longer it may last, and the greater likelihood that one of the original beneficiaries may die before it is used up, so if a trust is used, it must have contingent beneficiaries. The big benefit of IRA money is that it continues to grow tax deferred until it is taken out under the IRS rules requiring an annual distribution, or because the beneficiary takes more out. If a child or grandchild inherits an IRA, that child will have to take out the minimum each year, and pay income tax on it, but the rest will continue to grow tax deferred. That is a huge benefit as the years go by. Inherited IRA’s are often called stretch IRA’s because they are usually stretched out over the lifetime of the beneficiaries.

Anyone who has an IRA must start pulling money out when they turn 70 ½. The rules are different for inherited IRA’s as the beneficiary must start taking the money out immediately. But the beneficiary still gets the benefit of deferred taxes on the growth of the funds still inside the IRA. These rules can get quite complicated, and they are strict, but the stretching out of payments can mean much more money in the long term for your family.

Take some time to think over your family’s situation, including ages, abilities, and special concerns, and name beneficiaries carefully. In the case of minor children, or even children younger than 35, consider a trust designed to hold IRA funds. If you yourself are up in years, and have very old siblings, or a favorite uncle who is one step from a nursing home, consider other ways to provide for them instead of leaving IRA’s directly to them. Consult with your accountant, or financial advisor or attorney on the options available. That will give you peace of mind and may better provide for your family.