A trust can hold many different assets, including your individual retirement account (IRA). Doing so can have benefits for you and your heirs, but it’s important to structure the trust properly. We’ll discuss how a trust works and what you need to know.
A financial advisor could help you create a financial plan to protect your investments and identify new opportunities to make money.
What Is a Trust?
A trust is a fiduciary arrangement that allows a trustee to hold assets on behalf of a beneficiary. This relationship allows the trustee to decide exactly how and when to distribute assets to beneficiaries. Having this control over distributions can be helpful in some situations.
For example, the trustee might worry that the beneficiary or beneficiaries will mismanage their inherited assets. In general, people place investments in a trust to have greater control over their wealth and to provide legal protection in some cases. It can also be helpful in keeping assets private, as trusts are not a part of the public record.
Who Can Own an IRA?
An IRA is an individual retirement account, which indicates who can own this type of investment account. Thus, an IRA cannot be a joint account and cannot be owned by an entity, such as a business. Other types of IRAs, like SEP IRAs and SIMPLE IRAs, can be established by businesses.
To be eligible to contribute to an IRA, you or your spouse must have earned income. You can also own an IRA if you have a 401(k) account through your employer. This is also helpful if you left your employer for a new position at another company and want to roll over your 401(k) savings to an IRA. The same applies if you lost your job or want to start over with a new career path.
Can an IRA Be Placed in a Trust?
It is possible to name a trust as the beneficiary of an IRA. To do so, the IRA creates a trust, then names it as the beneficiary of the IRA. The result is that the trust receives any funds remaining in the IRA when the owner dies.
The trust also has beneficiaries, which is what allows the IRA owner to have greater control over the distributions. They can specify exactly who should receive the funds, like a spouse, children, grandchildren, or friends. The account owner can also set certain rules and stipulations on the trust. This again allows them to have greater control over how the money is handled after their death. The IRA owner also has to make sure that the trust is drafted properly. That includes making sure the payouts are distributed properly across all beneficiaries.
One option is to have your IRA distributed into a charitable remainder trust – which would not be a taxable event. This trust, sometimes called a give-it-twice trust, would pay income to whomever you name as beneficiaries for a set term, such as life, a specific number of years or life plus a term of years. Once the payments to the beneficiaries have been completed the balance of the trust goes to the designated charity.
Benefits and Disadvantages of Placing a Trust in an IRA
Placing a trust in an IRA has benefits as well as disadvantages. Here are some to consider.
- Greater control over your wealth: Placing an IRA in a trust allows you to specify exactly when and how your assets should be distributed. It allows you to have precise control over the money and even name successive heirs. For instance, you can say that your children should receive the investments first, followed by your grandchildren.
- Protection from creditors: When properly structured, a trust can protect an IRA from creditors, such as those who may seek collection from your heirs.
- Privacy: A trust is free from the public record. If you want to keep your investments private, one way to do so is with a trust.
- Avoids probate: Probate can be a long and stressful process, especially when heirs are already dealing with the death of a loved one. Fortunately, a trust can pass to heirs without having to go through probate.
- Distributions must be made quickly: One downside of placing an IRA in a trust is it can mean distributions must be much quicker. In general, distributions from an inherited IRA must be made within five years if the beneficiary is not an individual.
- Potential tax burden: Because an inherited IRA must generally be distributed within five years, the situation can create a tax burden for your heirs. Income brackets for trusts are also much lower, which may lead to higher taxes. However, this potential tax burden would be avoided by having your IRA transferred into a charitable remainder trust, as discussed above.
It is possible to place an IRA in a trust. To do so, you create a trust and name it as the beneficiary of your IRA. This is ideal in certain circumstances, such as when you want greater control or privacy. However, distributions from an inherited IRA must be made within five years, and the situation could create a tax burden for your heirs. One way to avoid that is to transfer your IRA into a charitable remainder trust.
Tips for Estate Planning
- Remember that there are tax implications that come with distributed money from an inherited IRA unless it is a Roth IRA. To estimate how much tax will be assessed on the account’s earnings, use SmartAsset’s capital gains tax calculator.
- If you have an IRA you want to pass to a minor beneficiary, it can be challenging to know how to go about it. Working with a financial advisor can be useful as they can help you put together a strategy to keep your loved ones financially secure. Finding a vetted financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
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