Should You Name Your Estate as Your IRA Beneficiary? - Rodgers & Associates
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Should You Name Your Estate as Your IRA Beneficiary?

4 Reasons Not to Name Your Estate as an IRA Beneficiary

Many people often assume that naming heirs in their will is suffi­cient and that there is no need to duplicate those benefi­ciaries in their IRAs or in their company retirement plans. This is far from true. Be sure to designate primary and contingent benefi­ciaries for all your retirement accounts using the proper paperwork provided by your custodian or plan admin­is­trator. Benefi­ciaries can certainly mirror your will if that is your intent. There are several compelling reasons for naming benefi­ciaries in your IRA.

1. Probate expenses

An IRA payable to an estate causes the IRA to be included in the assets distributed by the will, subjecting those assets to probate. Since the cost to probate a will and the associated executor and attorney fees are generally a percentage of the estate’s value, this creates additional and unnec­essary expense and a certain delay in the distri­b­ution of those assets. Also, all probate details are a matter of public record. There is no privacy with probate.

2. Distributing the IRA

The Secure act passed in December of 2019 created three different categories of benefi­ciaries: Eligible Desig­nated Benefi­ciaries, Desig­nated Benefi­ciaries and those that are Non-Designated Benefi­ciaries. It has also modified the way IRA’s are handled after someone passes away post January 1, 2020. As of January 1, 2020 if your IRA is payable to an estate, a Non-Designated Benefi­ciary, it must be distributed within five years of your death if you die before your required beginning date (RBD — April 1 following the calendar year in which you reach age 72) or during your remaining single-life expectancy if you die after your RBD. While distri­b­u­tions are being made, the estate must also be kept open, requiring a tax return every year.

3. Estate income taxes

If distri­b­u­tions are made from the IRA while it is held by the estate, then these will be taxed at unfavorable estate tax brackets. For an estate, the top bracket (37%) applies to taxable income over $12,950 in2020. In contrast, for an individual (filing single) the top bracket (37%) applies to taxable income over $518,400. For a couple (married filing jointly) the top bracket (37%) applies to taxable income over $622,050.

4. Greater growth potential

An IRA left to a spouse can be rolled directly into the spouse’s own IRA, extending the tax deferred or tax-free growth, with no distri­b­u­tions required until the spouse reaches 72. An IRA left to a spouse also has creditor protection. IRA’s left to any other Eligible Desig­nated Benefi­ciaries, must have their balances withdrawn over the longer of the beneficiary’s or the owner’s life expectancy. Eligible Desig­nated Benefi­ciaries include, the owner’s spouse, the owner’s minor children (until they reach the age of majority), a disabled individual, a chron­i­cally ill individual, those not more than 10 years younger than the deceased and certain trusts. An IRA left to a Desig­nated benefi­ciary can be rolled into an inherited IRA extending the tax deferred or tax-free growth. The inherited IRA will need to have all funds withdrawn within 10 years. Leaving an IRA to your spouse or child is a powerful way to help them plan for their retirement, but it should be done in the correct manner to minimize taxes. One of the few moments where naming your estate as your IRA benefi­ciary makes sense is if 100% of your estate is going to charity. Otherwise, it’s advisable to designate primary and contingent benefi­ciaries for all your retirement accounts. Review the desig­na­tions yearly and update as necessary.