How to Leave your IRA to your Family

THE BASICS
Your IRA is not covered by a will. Instead, specific designation forms govern where the funds go. (these recipients are called the beneficiaries) You generally fill out these forms when you open an IRA account. 

NOW is a good time to make sure all your beneficiary forms are up to date. For example, if a family member married or divorced, or had children or grandchildren, you should amend the beneficiaries. 

•      HOW? - Simply ask your financial company for a beneficiary amendment form. REMEMBER - For IRAs, you can name any beneficiary you want, including friends, family members, a trust or charity. But, for a 401(k), your spouse must give written permission if you leave it to anyone else besides him/her. 

A COMMON MISTAKE YOU SHOULD NEVER MAKE--- 

Do Not name your estate as your beneficiary! Doing so will cost you more taxes. You will have to withdraw all funds in the IRA within five years. You will also lose nearly all of the tax benefits that are exclusive to IRAs.

•    The reason this can happen to you, is that usually default beneficiaries are the owners' estates. So if no beneficiary form is filed or the initial beneficiary cannot inherit and no alternate is named, your estate will be the default beneficiary. Make sure your beneficiaries are up to date so this does not happen.

We all make mistakes.

NAMING THE BENEFICIARIES?

Stretching-Out your IRA. Your beneficiaries can elect to draw out the minimum required distributions over their own expected life spans. This is known as the stretch-out.  The Stretch-Out can extend the tax advantages of an IRA. 

The benefit comes in the extra years of income-tax-deferred growth in a traditional IRA or tax-free growth in a Roth IRA. 

Remember, the more that stays in the IRA, the more it will earn! This is important because the minimum required distributions are based on life expectancy. The longer the life expectancy, the smaller the distribution. (aka more money left in the IRA growing)

So, Stretching-Out your IRA means your beneficiary will elect to leave more money in the IRA, which grows tax-free.

Per Stirpes? This is a legal term. When selected, it means that the IRA will be distributed to your children evenly AND if one were to pass away, their children (your grandchildren) would receive their share. By not selecting per stirpes, the deceased child's share would be divided among the other beneficiaries (your children). (For Example: If I had 3 children, A, B, and C. Lets say that C passes away. Under Per Stirpes, A would get 1/3, B would get 1/3, and C's children would share 1/3. However, without Per Stirpes, A would get 1/2 and B would get 1/2.)

Naming a Trust as Beneficiary? There are good reasons for naming a trust as the beneficiary. If you have minor children, you should always consider naming your trust as your beneficiary. By doing so, the funds would be sheltered from creditors. Also, the funds would be distributed at certain times throughout the child's life (rather than all at once allowing them to squander it), and spendthrift provisions can ensure financial support for the children when needed until he achieves a certain age. 

A trust can also force the beneficiaries to take advantage of the Stretch-out of the IRA. However, make sure that your trust qualifies as a designated beneficiary, otherwise, the trust will have to take the money within five years of distribution. 

Once you have completed the forms, it would be wise to consult an estate-planning lawyer to look it over.  They can coordinate your retirement accounts with the rest of your estate plan. 

I hope this post has helped you with your IRAs' beneficiary plan. 

For more information, check out these well written articles (sources).