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September 4, 2020 | Category: Asset Protection, Corporate and Taxation, Estate Planning and Probate, News

Here is the scenario.  Herbert, age 80, has $3,000,000 in his retirement plan. He has around $7,000,000 in other assets.  His wife, Wilma, died recently. Herbert and Wilma have two sons, one a high-risk doctor; the other a real estate developer who has personally guaranteed several projects. Herbert has four grandchildren, two from each son.

Herbert is aware that under current law, there is no Estate Tax issue for him because of the approximate $11,600,000 Exemption plus the unused Exemption from his wife.

He knows that on January 1, 2026, the Estate Tax Exemption will be cut in half.  He is also aware that if the Democrats get back in control in 2021, this reduction is likely to be accelerated to 2021 or lowered even more. The flat 40 percent Estate Tax rate could increase.

Herbert also knows that IRA distributions, etc. are subject to Income Tax as well.

To make things even more complicated, beneficiaries of qualified retirement plans, IRAs, etc., with few exceptions, must receive their monies by December 31 of the tenth year after the death of the participant or IRA owner.

Herbert wants to split the $3,000,000 equally among his two sons.  Herbert meets with his tax attorney and comes away with a new understanding of the issues.

The attorney suggests that instead of naming the sons as beneficiaries, two “see through” retirement trusts be named as beneficiaries.  The beneficiaries of each retirement trust would be the respective son and his children.  The Trustee would then decide who among the class of beneficiaries (the son and his two children) would receive the monies and when. A trusted advisor, such as Herbert’s CPA, could serve as Trustee.

At Herbert’s death, the Trustee would then meet with each son and his children. The Trustee could take into consideration whether it would make tax sense to skip the son and have monies go to the grandchildren instead. This would be dependent upon possible Estate Tax issues for the son, the Income Tax brackets of the son and of the grandchildren, and possible creditor and spousal issues of the beneficiaries.  

The hardest issue is to decide when to take monies from the retirement plan or IRA, because this generates taxable income to the recipient.  While deferral to year 10 will likely produce the greatest payout, the lump-sum payout, when added to the recipients’ other taxable income, will likely maximize the tax.  This is because the tax rate increases at very various steps as taxable income increases.

The optimal solution may be to spread the distribution over a number of years with due regard for deferral.  Perhaps equal distributions in years 6 through 10 might work for some recipients. Eventually, there may be a program to help out.

A lot to think about.

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