Stretch IRA Trust

By Ward J. Wilsey, JD, LLM3655 Nobel Dr. Suite 345

San Diego, CA 92122(858) 764-2672

wardwilsey@wilseylaw.com

Circular 230 NoticePursuant to the rules of professional conduct set forth in Circular 230, as promulgated by the United States Department of the Treasury, nothing contained in this communication was intended or written to be used by any taxpayer for the purpose of avoiding penalties that may be imposed on the taxpayer by the Internal Revenue Service, and it cannot be used by any taxpayer for such purpose.  No one, without our express prior written permission, may use or refer to any tax advice in this communication in promoting, marketing, or recommending a partnership or other entity, investment plan or arrangement to any other party.

The ProblemTrillions of Dollars in Wealth held in

Qualified Retirement Accounts“Qualified Retirement Account” means any

account with a tax deferral benefitIRAs, 401Ks, 403(b), etc.For the purposes of this presentation, I’ll

lump these together under the term “IRA”With the recent increase in the estate tax

exemption, the likely real future “estate tax” will reside with IRA ownersIncome TaxOpportunity Cost on Lost Deferrals

Estate Taxes on IRAsUpon Death, IRAs constitute “Income in

Respect of Decedent” (Internal Revenue Code 691)Withdrawn amounts are taxable as ordinary

incomeSee IRS Publication 559 for more information

When IRAs are inherited, they become taxable immediately absent proper planningOnce distributed, and once taxes, you lose

the opportunity for tax free growth in IRA “wrapper”.

Taxes on IRAsIf state and federal taxes apply, the result

is a great deal of lost IRA wealthExample 1. John Doe dies, leaving his son

Kyle Doe with a $500,000 IRA. If this IRA is subject to immediate taxation, there would be a 35% federal tax and a 9.3% California state tax. The result is a tax of approximately $205,225.00

Net Distribution is only $294,775About 41% of the IRA is gone, right away

Solution is deferral“Stretch” IRA

The process of a Beneficiary taking only the Required Minimum Distribution from an Inherited IRA each year, allowing the remainder to compound in a tax free environment.

Why does it work?Compound interest in a tax free “wrapper” (only

distributions are taxes)capital gains, dividends, etc. are not taxed each yearExtra gain

Deferral is not indefiniteRequired Minimum Distribution (“RMD”) must be

taken each and every year.Even on Roth

Results for a Stretch IRAExample 2. John Doe dies, leaving his

$500,000 IRA to his son Kyle, who is 50 Years oldGrowth

8% growth plus a 2% premium for tax deferral10% real growth

Over $4.6 million of distributions by the time Kyle is 85 years old$2.9 million net of taxAlmost 10 times the amount if Kyle takes

lump sum distribution

Stretch for a GrandchildDeferral benefits for younger generations are

much greaterEx. 3. Assume that John Doe leaves his

$500,000 IRA to his grandson Larry. Same growth of 10% real growth.

Result is over $42 million of distributions by the time Larry is 85Over $25 million net of taxAlmost 100 times the benefit had a lump sum

distribution occurred at deathMain rule…the younger the Beneficiary, the

more wealth passes via the Stretch

Comparison of Approaches for Distributing $500,000 IRAApproach Distributions Tax

RateNet Distributions

Immediate Distributions

$500,000 41% $294,775

Kyle, 50 years old $4,629,935 41% $2,731,662

Larry, 20 years old $42,609,134.35 41% $25,139,389

IRA “Blowouts” (Non-Stretch)Immediate Withdrawal5 year rule

All IRA amounts must be withdrawn within 5 years of IRA owners death

No Designated BeneficiaryDeath of IRA owner prior to age 70.5

Stretch Over Life Expectancy of IRA ownerYou may “Stretch” the IRA over what the deceased

IRA owners distribution schedule would have been had he or she survived

No Designated BeneficiaryDeath of IRA owner after age 70.5

Or if oldest Designated Beneficiary older than the IRA owner

Creating the StretchYou need a Designated Beneficiary to

Stretch an IRA or 401KThe younger the Beneficiary, the more the

wealth transferWhat is a Designated Beneficiary

IndividualNot a CharityNot an Estate

Properly Designed Trust

What about the Spouse???Generally, a spouse should be the primary

beneficiary of an IRAThey will rollover the inherited IRA and be

responsible for naming future beneficiariesBlended Families

If you want to leave the IRA to a spouse, but ensure that it then goes to your kids, you must use a Trust

You will lose much of the Stretch Benefit if your spouse is significantly older

Naming IndividualsYou can name individuals as designated

beneficiaries over a percentage of IRAExample

John Doe can leave his IRA 50% to his son Kyle and 50% to his grandson Larry

Each will be able to Stretch their ½ over the course of their lifetimesTheir stretch will be according to their age

o Kyle will receive less in total distributions than Larry

The Problem with Naming IndividualsStretch IRA will (likely) not happen

Most inherited IRAs are withdrawn almost immediately, foregoing future benefits

Anecdotally, estimates are that 80% to 90% of IRAs that are potentially “stretchable” are not stretched

Bottom Line: IRAs left outright to individuals will likely not be Stretched. The result is a loss of about 90% to 99% of the possible IRA distributionsOPPORTUNITY COST

Solution: Stretch IRA TrustBenefits of the Stretch IRA Trust

1. Guarantee that a Stretch will occur2. The option to direct how Distributions are

made3. Protect the Inherited IRA from Creditors,

Divorce, and Government (Special Needs)4. Protect IRA from the Generation Skipping

Transfer Tax

Stretch IRA TrustINHERITE

DIRA

STRETCHIRA Trust

Annual Required Minimum Distributions drop each year into Stretch IRA Trust, to be distributed according to the

terms of the Trust.

Annual RMD

Distributedto

Beneficiaries

1. RMD each year go to Stretch IRA Trust

2. Terms of Trust state how distributions made

3. IRA is protected from creditors, divorce, and government

4. Result is that family wealth though Stretch IRA is guaranteed, rather than an improbable possibility

What about the Revocable Living Trust?Stretch IRA Trust is a different animalA Standard Living Trust is absolutely

requires for non-qualified assets, but does not work well for inheriting IRAsDesignated Beneficiary RulesIssues with older beneficiaries

Any person with an IRA over $250,000 should have both (1) a Living Trust and (2) a Stretch IRA Trust

Summary1. Without properly Stretching an IRA, you

would lose 90% to 99% of the potential inherited IRA distributions

2. You must name a Designated Beneficiary to “stretch” an IRA

3. Individual Designated Beneficiaries will generally not “stretch” an IRA

4. A Stretch IRA Trust will ensure that an IRA is Stretched

Protect IRA from creditors, ex-spouses, and government

Provide distribution instructions