Broker Check

Should You Make a Trust the Beneficiary of Your IRA?

October 24, 2023

People generally leave their IRAs to individuals when they die—often to a spouse or to a child. But there may be good reasons sometimes to leave IRAs to a trust. Some of these reasons may include the following:

  • Working around beneficiary ownership limitations. Perhaps the intended beneficiary is a minor who is legally unable to own the IRA. Or perhaps the IRA owner wants to support an individual with special needs who may lose access to government benefits if he or she owns assets in his or her own name. A solution in both cases could be to name a trust as the IRA beneficiary.
  • Balancing a Second Marriage with Children from a Prior Marriage. An IRA owner may wish for RMDs to benefit his second spouse during the spouse’s lifetime, and then have the remainder of the IRA pass to his own children. If the IRA owner leaves the IRA outright to his spouse, he can be certain that his spouse will benefit, but he can’t guarantee that his children will receive anything. If he instead leaves the IRA to a properly structured trust, his desire to benefit both sets of beneficiaries can be carried out.


  • Naming successive beneficiaries. When an individual IRA beneficiary inherits an IRA, she can name her own initial successor beneficiaries. If the IRA owner wishes to control the successor beneficiary beyond the initial beneficiary, the owner will need to set forth the succession terms in a trust and name the trust as the IRA beneficiary.


  • Providing creditor protection. A person’s own IRA has some level of protection from creditors, but this does not always carry through to the inherited IRA. The U.S. Supreme Court ruled in Clark v. Rameker (2014) that inherited IRAs do not qualify under the Federal Bankruptcy Code as exempt from the claims of creditors as “retirement funds.” An inherited IRA held instead in a properly structured trust will not be an asset of the beneficiary and may have some protection from creditors.1


While there may be good reasons at times to leave an IRA to a trust, there are also downsides. These downsides became more significant with passage of the Secure Act (Setting Every Community Up for Retirement Enhancement) in 2019. This is because the Secure Act changed the method of distribution of inherited IRAs.


The Stretch Rule


There are rules for the distribution of inherited IRAs. For non-spousal beneficiaries,2 the preferred payout has long been the “stretch IRA,” where the post-death RMDs are stretched out, with annual distributions, over the life expectancy of the new IRA beneficiary.


The SECURE Act significantly reduced the ability to create a stretch IRA. The prior stretch rule has been replaced for many beneficiaries with a 10-year rule that requires the IRA to be distributed out completely by the end of the tenth year following the year of the IRA owner’s death.3 The new 10-year rule does not apply to “eligible designated beneficiaries” who include (1) the IRA owner’s surviving spouse, (2) the owner’s children while they are minors, (3) certain individuals who are chronically ill or disabled, and (4) any person who is not more than 10 years younger than the IRA owner. The stretch IRA may still be available for these beneficiaries.


RMD Rules for Trusts Inheriting IRAs


The post-death RMDs for a trust named as an IRA beneficiary may be calculated under different rules depending on certain attributes of the trust and the trust beneficiaries. Absent other criteria being applicable, a 5-year rule applies where the balance of the participant’s IRA must be withdrawn within 5 years of the date of death. The stretch rule, however, may still apply to the eligible designated beneficiaries mentioned above.


For most non-spousal beneficiaries, though, the 10-year rule applies. This means the decedent’s IRA must be distributed within 10 years following the date of death. But the issue is somewhat more nuanced than this.


Conduit Trusts


If the trust identifies a specific beneficiary or beneficiaries to receive all withdrawals from the IRA account, that individual or entity is treated as the direct beneficiary of the IRA. In a conduit trust the trust distributes IRA withdrawals directly to its beneficiaries. It is considered a “conduit trust,” as the trust’s existence is ignored for the purpose of identifying a classification of the beneficiary. Generally, distributions from a conduit trust must be distributed within ten years. Such distributions are taxed at the beneficiary’s tax rate. For example, if distributions are made to a beneficiary in each of the 10 years after the owner’s death, the annual distributions are taxed at the beneficiary’s tax rate.


Accumulation Trust


If the trust can accumulate withdrawals from the IRA, rather than disbursing withdrawals in their entirety to the beneficiaries, it is considered an “accumulation trust.” This is the type of trust used to disburse funds to its trust beneficiaries over an extended time. Any distributions from the IRA which are accumulated and not immediately distributed to beneficiaries are taxed at trust tax rates rather than individual tax rates. Why is this important? Because tax rates for trusts may be much higher. Specifically, tax rates for trusts are taxed at 37% for accumulated income above $13,400 (2022). Compare this to individual taxpayer rates where the 37% tax bracket is reached at income above $539,900 (2022) for single filers and $647,850 (2022) for joint filers. The maximum taxation for trusts is reached at a much lower threshold than the threshold for individual taxpayers—in fact, several hundred thousand dollars lower. And this is only federal taxes. Add your state taxes onto this. This factor alone may make some accumulation trusts unappealing as the beneficiary of an IRA.


The Conundrum

Based on the above discussion of the rules and regulations, and depending upon individual circumstances, the use of a trust as the beneficiary of an IRA may not be ideal. Before deciding to make a trust the beneficiary of your IRA, you should first discuss your particular situation with your attorney and financial advisor.


In many instances the easiest solution may be to leave other assets in trust and use the IRA for outright gifts to beneficiaries and charities. However, that is not always an option.

Another option may be to convert a traditional IRA into a Roth IRA and avoid taxability of the distributions to the trust and beneficiaries. However, this requires careful analysis as the participant will be required to pay the income tax on the IRA upon conversion.4


Contact Us


This is a very brief overview of a complex topic. If you are interested in knowing more about the pros and cons of making a trust the beneficiary of your IRA, please feel free to contact us. Remember, we are here to help.


Doug Lemons, CFP®





2Spousal beneficiaries have the option of rolling over the decedent’s IRA into their own IRA.

3As it currently stands, IRS regulations may require beneficiaries to take annual distributions in years 1 through 9 and the remainder taken in year 10 if the plan participant died after their required beginning date (currently age 72). Further clarification may be forthcoming.