Many people think family trusts are only for the very wealthy, but if your retirement assets exceed $500,000, you may want to consider the option. Trusts are becoming more common among people retiring with 401(k)s and IRAs near or above that range. It’s not always a good idea, but there are reasons some people might want to create one. (For more, see How to Set Up a Trust Fund If You’re Not Rich.)
“The first thing I tell clients to do is not to do it,” attorney James Davis, who leads the tax practice at Gunster, a law firm headquartered in West Palm Beach, Fa., told Bankrate.com. “Trusts as beneficiaries of IRAs can be very complicated. If it is not done properly, immediate income tax consequences could result,” he says.
Done correctly, though, a trust can be useful in some situations.
A trust may be your best option if you want to achieve the following:
If you do want to explore using a trust, the key thing to do is find someone who understands the IRS rules. Arizona financial advisor M.D. Anderson, who specializes in inherited IRA issues, warned that it is critical to hire someone who understands the IRA’s rules; otherwise, the money can be lost to taxes.
“Not surprisingly, the Treasury Regulations require that if distributions are going to be stretched over the life expectancy of trust beneficiaries, that the trust beneficiaries must be identifiable in the first place, which generally means they should either be identified by name, or identified as members of a “class” of beneficiaries that could be identifiable when the time comes (e.g., “my children” or “my grandchildren” would be fine, but “whoever my trustee decides to make distributions to” would not). Notably, embedded in this requirement that all beneficiaries be identified is that they be identifiable as designated beneficiaries, which means they must be individual, living, breathing human beings as beneficiaries,” writes Michael Kitces, a financial planner with a website he calls “Nerd’s Eye View.”
In addition to finding the right professional, also be sure you take a close look at the costs involved in setting up a trust. Just the initial setup can come to anywhere between $1,500 and $5,000, to pay both a knowledgeable attorney and an investment manager. Also, you will need to pay someone to file the trust’s tax return, which will add about $500 to $1,500, depending on the complexity of the trust.
Making a trust the beneficiary of your retirement assets could be your best choice in some situations. However, if you decide to take that route, be sure to find advisors who are well versed in setting one up according to IRS rules.