When gathering information from new clients one of my first topics of discussion is their IRA beneficiaries. In general, most couples name each other as primary beneficiaries and then their children as contingent beneficiaries with an equal split. If a spouse inherits an IRA they can roll it over and treat it as their own, their future Required Minimum Distributions (RMDs) are based on their own age.
The issue becomes when a child inherits an IRA from their parent. Inevitably a parent assumes that their child will roll it over into an Inherited IRA account and stretch distributions over their lifetimes. There are, however, several pitfalls that should be understood when a child is named beneficiary. First, the child is not required to stretch distributions over a lifetime, they may withdraw the funds as rapidly as they wish, which generally is not a parent’s intent. The second issue is that Inherited IRAs are not protected from creditors; if your child should be sued and found liable or declare bankruptcy these funds are available to creditors to settle their debt. The third issue involves a divorce, if withdrawals are taken and commingled the funds then become an asset to divide.
Even though you may have an estate plan that deals with your taxable accounts and residence; IRAs, which may have significant balances are often left unprotected from your beneficiaries, their creditors, and a potential divorce. There are techniques that can limit your child’s withdrawals to the minimum annual distributions and protect the balances from creditors and divorce. If you have significant balances in your retirement accounts you should consider options other than naming your children direct beneficiaries without control and protection.
All comments and suggestions are welcome.
Suzanne M. Antonelli, CFP®