Morningstar Magazine - April/May 2018 - 43

By contrast, if individuals are named as designated
beneficiaries on your client's IRA forms,
as discussed above, they'll have more flexibility
to stretch out the tax-savings benefits.
If the Beneficiary Is a Trust

Making a trust the beneficiary of an IRA
won't help your client's estate or loved ones save
on taxes; trusts usually entail extra costs
and add complexity to an estate plan. Clients
definitely don't want to make a trust the
beneficiary of their IRA unless they have a valid
reason to do so.
A key rationale for making a trust the beneficiary
of an IRA is if the individual they would like
to benefit from those assets cannot manage the
assets on his or her own. A minor child (discussed
above) is a good example. Ditto for loved
ones with special needs; not only is it possible that
individuals with an intellectual disability may
not be able to manage the assets themselves, but
inheriting assets outright could jeopardize
eligibility for government resources that people
with disabilities might otherwise be entitled
to. Trusts can also be used to ensure that clients'
loved ones take advantage of the stretch
opportunity for the inherited IRA assets, rather
than raiding the accounts all at once.
Short answer: If your client is considering making
a trust the beneficiary of his or her IRA,
get some estate-planning advice to ensure that
it's really warranted.
What About Inheriting an IRA?

We've discussed who should inherit an IRA. What
if your client is the recipient of an inherited IRA?
Owing to longer life expectancies and related
long-term care costs, inheritances have
flatlined in the United States over the past decade.
Wealth transfers as a proportion of net
worth dropped to 19% in 2007 from 29% in 1989.
Just a tiny share of the population receives
an inheritance of more than $100,000, according
to a study from the Federal Reserve Bank
of Cleveland.
Data is scant on the type of inheritances people
receive. Many people receive their inheritances

through the sale of real estate-often a parent's
home-while others receive financial assets.
As of mid-2015, 26% of U.S. households owned
traditional IRA assets, while another 17%
of U.S. households owned Roth IRA assets,
according to data from the Investment Company
Institute. It stands to reason that people who
inherit financial assets-rather than property-
are often inheriting IRAs.
Inheriting an IRA is more complicated than
inheriting a chunk of cash from a home
sale, however. (Of course, many heirs get involved
in prepping the family home for sale-that's
another story.)
The "right" answer about how to handle
an inherited IRA will depend on several different
factors: your client's relationship to the
deceased, his or her age, whether the account
is Roth or traditional, and whether the IRA
owner had begun taking RMDs. There's also the
most important factor of all to reckon with:
Does your client need the money soon, or will
he or she be able to continue to invest it,
thereby stretching out the tax benefits of the
IRA wrapper?

tap the assets as they need them and also
spread out the tax burden associated with those
distributions over the surviving spouse's
lifetime. This strategy also wins points
for simplicity, as it gives the surviving spouse the
opportunity to consolidate all IRA assets into
a single account.
From a tax standpoint, however, a rollover
will be the most beneficial in the (fairly rare)
instance that the surviving spouse is well
under pre-RMD age and doesn't have an imminent
need for the money from the IRA. (If the
surviving spouse is younger than 59 1/2 years and
cracks into the account before that age,
he or she would be subject to the 10% penalty on
early distributions.) Rolling over the money
enables a surviving spouse to stretch out the
tax-saving benefits of the IRA; he or she wouldn't
have to take RMDs until age 70 1/2.
Note that the surviving spouse must take out any
required minimum distributions, based on the
deceased spouse's age and life expectancy, for the
year in which the owner died.
Option 2

Transfer the Money Into an Inherited IRA.
I've outlined the key options available in four
major inheritance situations. (Note that this article
only tackles IRAs that are inherited directly
by individuals-that is, not through a trust or by
a charity. Nor does it tackle inherited assets from
a qualified retirement plan, where the rules,
especially for nonspouse beneficiaries, are
different.) It's worth noting that disclaiming the
IRA assets is also an option; in that instance,
the assets would pass to the other beneficiaries
or contingent beneficiaries.
If the Spouse of the Deceased Inherits
a Traditional IRA

Transferring the assets to an inherited IRA is
different from rolling the assets into the surviving
spouse's own account; the inherited IRA assets
remain separate from the surviving spouse's
other IRA assets and are subject to RMDs based
on the surviving spouse's own life expectancy.
Setting up an inherited IRA will make the most
sense for younger (pre-age 59 1/2) surviving
spouses who would like to tap the inherited IRA, at
least in part, soon. In contrast with the rollover,
discussed above, which allows penalty-free
withdrawals only after the surviving spouse has
turned 59 1/2, the inherited IRA allows for
penalty-free withdrawals prior to that point.

Option 1

Roll the Money Into the Spouse's Own IRA.
This is a sensible default strategy for surviving
spouses who need the IRA assets to fund
their living expenses and are of RMD age
themselves; rolling over the IRA assets to their
own accounts enables them to continue to

If the deceased spouse died before he or she was
of RMD age, the surviving spouse can use one
of a few different methods for calculating RMDs,
as outlined here.
Option 3

Take the Money Out of the IRA in a Lump Sum.

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Table of Contents for the Digital Edition of Morningstar Magazine - April/May 2018
