Should You Have a Trust as the Beneficiary on a Retirement Account?

Tim Hayes AIF®, CRPS®, AWMA®, CFS®, APMA®, CAS®, CES™, CTS™

To allow non-spouse beneficiaries to withdraw over their lifetime while protecting the retirement account (401k, 403b, IRA) from creditors, many attorneys recommended people name a Trust as the primary or contingent beneficiary of a retirement plan.

That way, non-spouse beneficiaries could withdraw money from an inherited retirement plan based on their life expectancy. Doing this spread the tax liability over an extended period and protected them from creditors if the beneficiary was in a Trust.

The SECURE Act

Signed into law in December 2019, the SECURE Act calls into question the benefit of doing this, especially if the Trust provides income for children or grandchildren.

The SECURE Act does not impact spouses. They can still take money out based on their life expectancy, starting when their deceased spouse reaches their required beginning date, now at age 72. If they prefer, spouses can transfer the IRA, 403b, or 401k into their own IRA.

Non-spouse beneficiaries who are ten years younger than the IRA owner must now withdraw all the money within ten years. However, they are not required to withdraw each year (after reaching adulthood, minor children are required to withdraw in ten years).

Why a Trust Could Be a Problem

Some Trusts require that only the minimum amounts be distributed each year to the beneficiaries. However, from now on, for non-spouse beneficiaries, the only required distribution happens in year ten.

Therefore, distributions may not be possible until year ten, when everything is withdrawn and taxed. The Trust could end up paying higher trust tax rates on the income and dividends on the monies not distributed in years one through nine.

COVID-19 Complicates Things

The law went into effect in 2020. Because of COVID-19, some people have not met with their attorney to review the new law and change the Trust or the retirement plan’s beneficiaries. (For governmental retirement programs, 403b and 457, the law goes into effect in 2022.)

Trusts for retirement plan owners who died before 2020 can use the old law and remain useful planning tools. But unless the new law changes, there appears to be little benefit of naming a Trust as the beneficiary on a retirement account.

A simple solution is to replace the Trust as beneficiary and name new beneficiaries on the plan. You can usually download a form or get it from your financial advisor or plan administrator. If you are married, you could make your spouse the primary beneficiary and your children and grandchildren contingent beneficiaries.

These are the opinions of Tim Hayes and not necessarily those of Cambridge Investment Research. They are for informational purposes only and should not be construed or acted upon as individualized investment advice. 

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