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What Happens to Your Retirement Account (IRA and 401(k)) When You Die?

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A question we often get is: What Happens to Your Retirement Account When You Die? For many of you, your IRA or 401(k) plan is the largest asset in your estate, after your home. While many estate plans contemplate the distribution of your home at death, does your estate plan adequately consider the distribution of your retirement accounts, such as your IRA or your 401(k)? What happens to your IRA or 401(k) if you have young children? What are the options for distributing your IRA or 401(k) to your spouse or to your children?

Required Minimum Distributions

One factor in determining postdeath required minimum distributions (RMDs) is whether you (the “participant”) die before or after your “required beginning date” (RBD). With some exceptions, the RBD is April 1 of the year following the year in which the participant attains age 70½. IRC §401(a)(9)(C).

A second key factor in applying the required minimum distribution rules is whether the benefits pass to a designated beneficiary. “Designated beneficiary” has a particular meaning in the context of retirement plans; not every beneficiary that is named as the recipient of death benefits is a “designated beneficiary.” In general, only individuals can be designated beneficiaries. IRC §401(a)(9)(E); Treas Reg §1.401(a)(9)–4, A-1. An estate is not a designated beneficiary (Treas Reg §1.401(a)(9)–4, A-3), and neither is a charity.

Trust as a Beneficiary of Your Retirement Account at Death

A trust is not a designated beneficiary, although under some circumstances the beneficiaries of the trust will be treated as if they had been named directly as beneficiaries of death benefits payable from the retirement plan. The trust must meet certain technical requirements, including the requirements that the trust must be valid under state law and irrevocable following the death of the participant, that its beneficiaries must be identifiable from the trust instrument, and that certain documentation must be provided to the plan administrator. Treas Reg §1.401(a)(9)–4, A-5. To be designated beneficiaries, all the trust beneficiaries who could receive distributions of assets received from the retirement plan must be individuals. Treas Reg §1.401(a)(9)–4, A-1, A-5(b)(3). That could include vested and contingent remainder beneficiaries. Treas Reg §1.401(a)(9)–5, A-7(b); see also Treas Reg §1.401(a)(9)–5, A-7(c)(3), Example 2.

Naming Your Spouse as Beneficiary of Your Retirement Account at Death

Special rules apply to surviving spouses and generally favor naming the surviving spouse as sole outright beneficiary. On your death, your spouse may treat your IRA as his or her own, or—with the same effect—may roll over your interest in a qualified plan or IRA into an IRA in his or her own name. IRC §401(c)(9); Treas Reg §1.408–8, A-5, A-7. In either case, the surviving spouse can name designated beneficiaries, and the RMDs will be determined using the uniform tables, which reflect the current life expectancy of the spouse and a hypothetical beneficiary who is 10 years younger, and following the spouse’s death the single life expectancies of the spouse’s designated beneficiaries. This typically provides an extended period of tax deferral. If the designated beneficiary is the spouse and the spouse does not roll over the benefits to his or her own IRA, the “required beginning date” (RBD) can be deferred until the participant would have attained age 70½. IRC §401(a)(9)(B)(iv).

Naming Your Child as Beneficiary of Your Retirement Account at Death

Before enactment of the Pension Protection Act of 2006 (Pub L 109–280, 120 Stat 780), a beneficiary other than a spouse could not roll over a retirement plan account into an IRA. After December 31, 2006, the Pension Protection Act of 2006 allows a domestic partner (whether or not registered) or other nonspouse designated beneficiary (e.g., child, sibling, parent, friend) to make a direct rollover of the inherited retirement plan into an IRA. IRC §402(c)(11). The beneficiary is not taxed on the full amount of the death benefits at the time of the rollover; rather, the “required minimum distributions” (RMDs) from this rollover IRA will be based on the beneficiary’s life expectancy under IRS Single Life table in Treas. Reg. §1.401(a)(9)-9, and the beneficiary will only pay tax on the RMDs as they are taken from the IRA. For plan years beginning before 2010, this option is available only if the pension plan documents provide for such a rollover. Notice 2007–7, 2007–1 Cum Bull 395. The Worker, Retiree, and Employer Recovery Act (WRERA) of 2008 (Pub L 110–458, §108(f), 122 Stat 5092) amends IRC §402(c)(11) to provide that qualified plans must make nonspouse rollovers available after December 31, 2009. Further, unlike a spousal rollover, which the spouse can treat as his or her own retirement plan (IRC §402(c)(9)), the nonspouse beneficiary’s IRA is treated as an inherited IRA and must be titled in the name of the deceased employee (IRC §402(c)(11)(A)(ii)).

If the designated beneficiary is not the surviving spouse and you, the participant, die before the required beginning date (RBD), the distributions may be taken over the life expectancy of the designated beneficiary, provided that distributions begin within 1 year after your death. IRC §401(a)(9)(B)(ii)–(iii); Treas Reg §1.401(a)(9)–3, A-4(a)(1). If the designated beneficiary is not the surviving spouse and you die after the RBD, the distributions may be taken over the longer of the life expectancy of the beneficiary or the life expectancy of the participant. Treas Reg §1.401(a)(9)–5, A-5(a)(1). If there are multiple designated beneficiaries, the life expectancy of the oldest designated beneficiary is used to determine the RMDs. Treas Reg §1.401(a)(9)–5, A-7(a)(1).

If You Have No Designated Beneficiary of Your Retirement Account at Your Death

If there is no designated beneficiary and the participant dies before the RBD, the retirement plan assets must generally be distributed within 5 years. Treas Reg §1.401(a)(9)–3, A-1. If, on the other hand, the participant dies after the RBD and there is no designated beneficiary, the retirement plan assets must generally be distributed over the participant’s hypothetical life expectancy using the age the employee attained (or would have attained) in the calendar year of death. Treas Reg §1.401(a)(9)–5, A-5(a)(2). The life expectancy is determined using the Single Life Table in Treas Reg §1.401(a)(9)–9, A-1.

As you can see, there are many variables to each of these very factual situations. If you are interested in learning more about how to ensure your IRA or your 401(k) is distributed appropriately, contact John Wong, an Orange County Estate Planning Lawyer at Modern Wealth Law.

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