Estate Planning Considerations: Stretch IRAs

The term “stretch IRA” has become a popular way to refer to an IRA (either traditional or Roth) with provisions that make it easier to “stretch out” the time period that funds can stay in your IRA after your death, even over several generations. It’s not a special IRA, and there’s nothing dramatic about this “stretch” language. Any IRA can include stretch provisions, but not all do.

Why is “stretching” important?
Stretch-IRAAny earnings in an IRA grow tax deferred. Over time, this tax-deferred growth can help you accumulate significant retirement funds. If you’re able to support yourself in retirement without the need to tap into your IRA, you may want to continue this tax-deferred growth for as long as possible. In fact, you may want your heirs to benefit–to the greatest extent possible–from this tax-deferred growth as well.

But funds can’t stay in your IRA forever. Required minimum distribution (RMD) rules will apply after your death (for traditional IRAs, minimum distributions are also required during your lifetime after age 70½).

The goal of a stretch IRA is to make sure your beneficiary can take distributions over the maximum period the RMD rules allow. You’ll want to check your IRA custodial or trust agreement carefully to make sure that it contains the following important stretch provisions.

Key stretch provision #1
The RMD rules let your beneficiary take distributions from an inherited IRA over a fixed period of time, based on your beneficiary’s life expectancy. For example, if your beneficiary is age 20 in the year following your death, he or she can take payments over 63 additional years (special rules apply to spousal beneficiaries). As you can see, this rule can keep your IRA funds growing tax deferred for a very long time.

But even though the RMD rules allow your beneficiary to “stretch out” payments over his or her life expectancy, your particular IRA may not. For example, your IRA might require your beneficiary to take a lump-sum payment, or receive payments within 5 years after your death. If stretching payments out over time is important to you, make sure your IRA contract lets your beneficiary take payments over his or her life expectancy.

Prepared by Broadridge Investor Communication Solutions, Inc. Copyright 2013

Key stretch provision #2
egg-photo_w_inherited_IRAWhat happens if your beneficiary elects to take distributions over his or her life expectancy but dies a few years later, with funds still in the inherited IRA? This is where the IRA language becomes crucial.

If, as is commonly the case, the IRA language doesn’t address what happens when your beneficiary dies, then the IRA balance is typically paid to your beneficiary’s estate.

However, IRA providers are increasingly allowing an original beneficiary to name a successor beneficiary. In this case, when your original beneficiary dies, the successor beneficiary “steps into the shoes” of your original beneficiary and can continue to take RMDs over the original beneficiary’s remaining distribution schedule. When reviewing your IRA language, it’s important to understand that a successor beneficiary is not the same as a contingent beneficiary. Most IRA providers allow you to name a contingent beneficiary. Your contingent beneficiary becomes entitled to your IRA proceeds only if your original beneficiary dies before you.

Stretch even further …
If you name your spouse as beneficiary, your IRA can stretch even further. This is because your spouse can elect to treat your IRA as his or her own, or to transfer the IRA assets to his or her own IRA. Your spouse then becomes the owner of your IRA, rather than a beneficiary. As owner, your spouse won’t have to start taking distributions from your traditional IRA until he or she reaches age 70½ (and no lifetime RMDs are required from your Roth IRA). Plus, your spouse can name a new beneficiary to continue receiving payments after he or she dies.
What if your IRA doesn’t stretch?

If your IRA doesn’t contain the appropriate stretch provisions, don’t fret–you can always transfer your funds to an IRA that contains the desired language. In addition, upon your death, your beneficiary can transfer the IRA funds (in your name) directly to another IRA that has the appropriate stretch language.

A word of caution
While you might appreciate the value of tax-deferred growth, your beneficiary might prefer instant gratification. If so, there’s little to prevent your beneficiary from simply taking a lump-sum distribution upon inheriting the IRA, rather than “stretching out” distributions over his or her life expectancy. It’s possible, though, to name a trust as the beneficiary of your IRA to establish some control over how distributions will be taken after your death.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and cannot be invested into directly. The tax information provided is not intended to be a substitute for specific individualized tax planning advice. I suggest that you consult with a qualified tax advisor.

Famous People Who Failed to Properly Plan

estate_planninglIt’s almost impossible to overstate the importance of estate planning, regardless of the size of your estate or the stage of life you’re in. A close second to the need to plan your estate is getting it done correctly, based on your individual circumstances.

You might think that those who are rich and famous would be way ahead of the curve when it comes to planning their estates properly, considering the resources and lawyers presumably available to them. Yet, there are plenty of celebrities and people of note who died with inadequate (or nonexistent) estate plans.

No estate plan
It’s hard to imagine why some famous people left this world with no estate plan. A case in point involves former entertainer-turned-congressman Salvatore Phillip “Sonny” Bono. He died in a skiing accident in 1998, leaving no will or estate plan of any kind.

His surviving wife had to petition the probate court to be appointed her deceased husband’s administrator, seek court permission to continue various business ventures in which Sonny was involved, and settle multiple claims against the estate (including one from Sonny’s more famous prior spouse, Cher). To make matters worse, a claim against the estate was brought by a purported extramarital child, which necessitated a DNA test from Sonny’s body to determine whether he’d fathered the claimant (he did not).

Do-it-yourself disaster
220px-Warren_e_burger_photoWe’ve all seen the ads for do-your-own legal documents, including wills and trusts. And the law does not require that you hire an attorney to prepare your will. But even the highest ranking jurist of his time should have relied on estate planning experts to prepare his estate plan. Instead, U.S. Supreme Court Chief Justice Warren E. Burger, who died in 1995, apparently typed his own will (consisting of only 176 words), which contained several typographical errors. More importantly, he neglected to address several issues that a well-drafted will would typically include. His family paid over $450,000 in taxes and had to seek the probate court’s permission to complete administrative tasks like selling real estate.

The importance of updating your estate plan
Sure, formulating and executing an estate plan is important, but it shouldn’t be an “out-of-sight, out-of-mind” endeavor. It’s equally important to periodically review your documents to be sure they’re up-to-date. The problems that can arise by failing to review and update your estate plan are evidenced by the estate of actor Heath Ledger.

Although Ledger had prepared a will years before his death, there were several changes in his life that transpired after the will had been written, not the least of which was his relationship with actress Michelle Williams and the birth of their daughter, Matilda Rose. His will left everything to his parents and sister, and failed to provide for his “significant other” and their daughter. Apparently his family eventually agreed to provide for Matilda Rose, but not without some family disharmony.

Let someone know where the documents are kept
An updated estate plan only works if the people responsible for carrying out your wishes know where to find these important documents. Olympic medalist Florence Griffith Joyner died at the young age of 38, but her husband claimed he couldn’t locate her will, leading to a dispute between Mr. Joyner and Flo Jo’s mother, who claimed the right to live in the Joyner house for the rest of her life.

The will of baseball star Ted Williams instructed his executor to cremate his body and sprinkle the ashes at sea. However, one of William’s daughters produced a note, allegedly signed by Ted and two of his children, agreeing that their bodies would be cryogenically stored. Before the will could be filed with the probate court, the body was taken to a cryogenic company, where its head was severed and placed in a container.

Prepared by Broadridge Investor Communication Solutions, Inc. Copyright 2013

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and cannot be invested into directly. The tax information provided is not intended to be a substitute for specific individualized tax planning advice. We suggest that you consult with a qualified tax advisor.