Whose Trust Should Be Your IRA Beneficiary?

By Beverly DeVeny, IRA Technical Expert
Follow Me on Twitter: @BevIRAEdSlott

Consider a typical scenario. There is a married couple, Peggy and Tom, and both have their own revocable trust. They also each have their own retirement accounts. It is frequently recommended that individuals name a trust as the beneficiary of their retirement accounts. We will assume that it is necessary for Peggy and Tom to do this.

Whose trust should they name as the beneficiary?

Without a trust, generally Peggy would name Tom as her primary beneficiary and Tom would name Peggy as his primary beneficiary. This type of planning works well for many couples. But now we throw a revocable trust into this beneficiary mix. Should Peggy name Tom’s revocable trust as her beneficiary instead of Tom? Should Tom name Peggy’s revocable trust instead of Peggy?

The answer is generally a resounding NO. It is always NO if you want this revocable trust to be able to stretch distributions over the life expectancy of the oldest of the trust’s beneficiaries.

One of the tax code requirements to allow a trust to use stretch distributions is that the trust be irrevocable or become irrevocable at death. If Peggy is the first to die, her trust will become irrevocable but Tom is still alive. His trust remains revocable. His trust will not be able to utilize stretch provisions. The reverse situation works out the same way. At Tom’s death, his trust becomes irrevocable but Peggy’s trust remains revocable because she is still alive.

A revocable trust beneficiary of an IRA or other retirement account has very limited distribution options. If the first spouse to die passes away before April 1 of the year after they attain age 70 ½ (their required beginning date or RBD), then the trust beneficiary will have to empty the IRA in five years. If the death occurs after the RBD, then the trust may be able to take distributions over the remaining life expectancy of the IRA owner, had he or she lived. (Isn’t the tax code wonderful, you’re dead but you still have a life expectancy!)

Whose trust should they name as the beneficiary of their retirement accounts? 

Tom should name his trust as the beneficiary of his retirement accounts and Peggy should name her trust as the beneficiary of her retirement accounts. This is assuming that each of their own trusts carry out their wishes to provide for their spouses and beneficiaries at each of their own deaths.

Can you “fix” the problem if they name the wrong trust as the beneficiary of their retirement accounts?

Maybe. If the surviving spouse is the sole beneficiary and has complete control over the inherited retirement accounts, IRS could allow them to roll the retirement account out of the trust and over to their own IRA. However, this comes with a high cost, both of time and money. You have to file a private letter ruling request (PLR) with IRS to get permission to do this. There is an IRS filing fee of $10,000 (for 2015) and you will have to pay a preparer’s fee to prepare the PLR, which could cost another $10,000 or more. The average wait time for an answer is about nine months.

It is always important to be sure that any advisor that you work with in regard to your retirement accounts understands the retirement rules and how they interact with other aspects of your financial and estate plans.