In simple terms, an IRA trust prevents an heir from receiving money outright from the IRA upon the account owner's death.
Without a trust, heirs can treat an inherited IRA as a piggy bank to whatever degree they want, as long as they take required minimum distributions as mandated by the Internal Revenue Service.
Unfortunately, creditors also can get a crack at the funds, thanks to the Supreme Court's decision in Clark v. Rameker. Before that 2014 ruling, inherited IRAs were treated as protected assets in bankruptcy. Now they are fair game. (A handful of states have laws that specifically protect inherited IRAs from creditors, but most do not.)
"I use the IRA trust to protect the kids from the money and the money from the kids," said LeBrecque, who is both a certified financial planner and an attorney.
It's important to note that although workplace retirement plans such as 401(k) plans operate under different laws from IRAs — and rules governing the transfer of 401(k) funds upon an account owner's death differ among plans — an IRA trust can be the beneficiary on both types of accounts, including their Roth counterparts.
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But before even considering an IRA trust, it's key to remember that the beneficiaries named on financial accounts — IRAs and the like, insurance policies, brokerage accounts, etc. — supersede anything dictated in your will. In other words, if your will calls for your IRA to go to your new wife but the listed beneficiary on the account is your ex-wife, guess who unfortunately gets the money.
CFP Jason Lina, lead advisor at Resource Planning Group, said that two basic considerations help determine whether an IRA trust makes sense for his clients. First is account size.
"When you get to a half-million dollars and above, it's about asset protection," Lina said, offering lawsuits, divorce and bankruptcy as examples of potential threats to inherited IRAs.
When an IRA trust is named as the beneficiary, the trust becomes the owner of the account's assets. And although the trust in turn has the heir as its beneficiary, that ownership differentiation is key.
Basically, when the IRA trust is set up, a trustee is named. That person — often a professional — is charged with distributing assets from the IRA to the beneficiary (the heir). But having the trust as a protective layer between the assets and the heir means that as long as the trust documents are properly written, the heir's control of the money, and therefore ownership, is nonexistent.