The vast majority of people who have saved for their retirement in an Individual Retirement Account (IRA) name their spouse as the primary beneficiary. In many cases that’s the best option. But few understand exactly how a spouse can inherit an IRA, and the other options available, such as a Standalone Retirement Trust (SRT). Let’s set the record straight.
First, it’s important to understand that spouses receive special treatment when inheriting a retirement account such as an IRA. Under the Setting Every Community Up for Retirement Enhancement (SECURE) Act (which went into effect January 2020), only a spouse can roll over the IRA account into a personal retirement account and stretch the distributions over their lifetime. Every other beneficiary of an IRA (with a few exceptions) must inherit the full account within 10 years, and depending on the size of the account, that inheritance could bump your beneficiary into a higher tax bracket, leading to significant tax consequences.
Your Spouse has Three Options When Inheriting Your IRA
When your surviving spouse inherits your IRA, he or she generally has three options. You have no control over which option he or she chooses after you die. Your spouse can choose to:
- Cash out the inherited IRA and pay the income tax
Warning! The cashed-out IRA will not have creditor protection and accelerates taxation. Once your spouse cashes out the account, he or she may use the money in any way. In addition, if your spouse dies before all the money has been spent, he or she can leave the money to anyone (even a mere acquaintance who was unknown to you).
- Maintain the IRA as an inherited IRA
Warning! The inherited IRA will not have creditor protection. However, under the SECURE Act, a spouse can take the required minimum distributions from this account over his or her lifetime without being held to the ten-year rule, as most other beneficiaries are.
- Roll over the inherited IRA and treat it as his or her own
Warning! The spousal rollover may offer some creditor protection but not in all cases. In addition, depending on whom your spouse leaves his or her retirement account to, there is now a larger sum of money to be distributed by the end of the tenth year after his or her death, accelerating additional income taxes for the next beneficiary.
So, when naming a spouse as an IRA beneficiary, it’s important to also consider:
- What would happen if your spouse predeceased you?
- Does your spouse already have adequate financial resources without your inherited IRA?
- Are you OK with having your IRA go to your spouse and exposing those assets to a divorce, a lawsuit, or bankruptcy proceeding?
- Do you want more control over the timing and exact path of the distribution?
Fortunately, there is a solution: a properly drafted Standalone Retirement Trust (SRT).
Standalone Retirement Trusts (SRT’s) Can Provide Creditor Protection
An SRT is a special type of trust designed to be the beneficiary of your retirement accounts after you die. It can protect your retirement account funds from your beneficiary’s creditors. In fact, we can include trust provisions that specifically protect your spouse in situations such as:
- second marriages;
- lawsuits from car accidents, malpractice, or tenants;
- business failure; and
Want To Know More?
The bottom line is that a properly drafted SRT is often your best option for protecting your retirement accounts after you die. Want to know more? Contact Beaupre Law today to schedule a conversation. We look forward to working with you!