Life and Death Planning for Retirement Benefits

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276 Life and Death Planning for Retirement Benefits
Whenever a client is leaving retirement benefits to a trust that is likely to accumulate some
of the plan distributions, be aware that a trust goes into the highest income tax bracket (and will
become subject to the 3.8% investment income “surtax”; at a very low level of taxable
income (se . If the client can prepay the income tax at a lower rate by converting the plan
to a Roth IRA that option should be considered.
Using a Roth IRA to fund a credit shelter trust for the life benefit of the participant’s
surviving spouse, or a QTIP trust, does not make best use of the Roth IRA, for the following
reason. The way to maximize the tax-free accumulation in a Roth IRA is to leave it outright to the
participant’s surviving spouse, who then rolls it over to her own Roth IRA and takes no
distributions from it during her lifetime. At her death she leaves it to a younger beneficiary for a
stretched-out tax-free life expectancy payout. This approach allows total accumulation of all
earnings inside the tax-free Roth as long as either spouse is living, with a life expectancy payout
to a younger beneficiary after both spouses’ deaths.
In contrast, the longest distribution period possible for a Roth IRA left to a trust for the
benefit of the spouse is the spouse’s life expectancy; the account will be distributed over her life
expectancy (not accumulated during her lifetime), and be reduced to zero at the end of her life
expectancy. See B).
B. Document changes needed to anticipate Roth conversion. The client’s durable power of
attorney should give the power-holder the power to convert any traditional plan or IRA to
a Roth IRA and to recharacterize any IRA contribution made by the client. See Form 5.1,
Since the client’s executor may have the power to recharacterize a Roth conversion made
by the client (see , the client’s estate planning documents may need to be amended to
guide the executor or facilitate (or inhibit) a post-mortem recharacterization. Consider:
 Including in the will an equalizing bequest to the Roth IRA beneficiary to
compensate him for loss of the account’s tax-free status if the executor
recharacterizes.
 Including in the beneficiary designation form language that will prevent the Roth
IRA beneficiary from blocking the executor’s recharacterization of a Roth
conversion.
 Giving the executor instructions, guidance, and/or protection regarding the
recharacterization decision. Approaches that various practitioners have suggested
include requiring recharacterization if the account value drops by more than certain
percentage (and forbidding it otherwise), or requiring recharacterization if
requested by certain beneficiaries. See Form 5.3,
C. Gifts with Roth IRAs. Depositing money in a Roth IRA for teenage children,
grandchildren, etc., has appeal as a gifting technique if the young family members have
summer or after-school jobs that generate compensation income on which an IRA
contribution can be based. The projections of what a $5,000 contribution will grow to by
the time the 15-year-old child reaches age 65 can be staggering. What gives pause is that
there is no way to prevent the donee from taking the money out of the account once he
reaches the age of majority.