He has some assets in a traditional retirement plan, some in a Roth plan, and some in outside (nonretirement) investments.

CASE # 1

Duncan: Estate Planning with Roth Accounts

“Roth” retirement plans are encountered with increasing frequency among estate planning clients, especially since (beginning in 2010) the availability of Roth “conversions” was extended to high-income individuals.

Naming the “right” beneficiary for a clients retirement plans is always a very important step in creating an estate plan. Failing to name the right beneficiary for a traditional retirement plan can cause loss of the “stretch” life expectancy payout for the benefits, and the resulting acceleration of income taxes (loss of deferral) can be financial detrimental.

Some planners mistakenly conclude that naming the right beneficiary is less important for a Roth plan than for other plans, because the Roth distributions are income tax free. Therefore if the benefits are “dumped” out of the Roth plan shortly after the clients death due to a faulty estate plan there is no great harm, because there is no acceleration of income tax.

This idea is mistaken. The stakes are actually even higher with a Roth plan simply because distributions from the Roth plan are tax-free. Thus the longer the assets can accumulate inside the Roth plan, the more tax-free income the client and his beneficiaries will receive. If the benefits are “dumped” out of the Roth plan shortly after the clients death due to a faulty estate plan, then that future tax-free investment growth is gone forever.

When a traditional retirement plan gets distributed immediately after the clients death due to a faulty estate plan, the financial damages are a little speculative. Its true the income tax has been accelerated when it could have been deferred, but the beneficiaries would have had to pay that tax sooner or later anyway so maybe they are not really harmed so much. But when an account that was supposed to generate tax free distributions over the beneficiarys entire lifetime gets distributed prematurely, the damage is severe. Just compare the value of that tax-free life-long stream of payments with the present value of an investment fund that will generate taxable income forever and see the difference.

The moral is: Proper estate planning is even more important for Roth accounts than for traditional plans!

  1. Duncans problem

Duncan wants to leave some of his assets to charity, some to his wife, and some to his children. He has some assets in a traditional retirement plan, some in a Roth plan, and some in “outside” (nonretirement) investments. Which asset should he leave to which beneficiary?

Chart 1, “Choosing a Beneficiary for the Retirement Plan,” suggests that all three of these classes of beneficiary are “tax-favored” for the traditional plans:


Chart 1: Choosing a Beneficiary for the Retirement Plan

There are basically six possible choices of beneficiary for a traditional retirement plan, three of which are “tax-favored” and three of which are not tax favored. See details next page L







(or a “see-through trust” for  young individuals)




(or a “see-through trust” for  older individuals)









NOTE: This chart is about income taxes only. It does not cover estate taxes or generation-skipping taxes. The fact that a beneficiary is (or is not) income-tax-favored does not mean you should (or should not) leave retirement benefits to him/her. Leave the benefits to the person you want to leave the benefits to. Just be aware in choosing your beneficiary that some beneficiaries will receive greater after-tax value from those benefits than others.

The same chart applies to Roth IRAs and plans EXCEPT that charity is not a “tax-favored” choice for a Roth IRA or plan.


Box A-1: YOUNG INDIVIDUAL(S) (or a “see-through trust” for young individuals). Young individuals get the benefit of long-term tax deferral using the “life expectancy of the beneficiary” payout method. This is no advantage, however, if the beneficiary does not take advantage of the method (because he/she needs or wants the money immediately). Also, a lump sum distribution may be more advantageous than the life expectancy payout method in some cases. A see-through trust for young individual beneficiary(ies) gets the same long-term deferral individuals do; however, not every trust qualifies for this treatment.

Box B-1: OLDER INDIVIDUAL(S). Older individuals (or a “see-through trust” for the benefit of one or more older individuals) can also use the “life expectancy of the beneficiary” payout method, but receive less advantage from it because of their shorter life expectancy.

Box A-2: THE SURVIVING SPOUSE. A surviving spouse who inherits a retirement plan from his or her deceased spouse can elect to treat an inherited IRA as his/her own



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