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Minimizing the tax burden of the SECURE Act’s 10-year payout
March 18, 2020 at 2:00 PM

Protecting piggy bankThis is the third in a four-part blog series on the Setting Every Community Up for Retirement Enhancement Act (SECURE Act). Parts 1 and 2 can be read here. The final installment will cover how the SECURE Act affects Qualified Charitable Deductions.

As discussed in previous installments of this blog series, after the death of a retirement plan participant or IRA owner, non-eligible designated beneficiaries of a retirement account (other than a Roth) will experience an acceleration of taxable income and the loss of tax-deferred growth that was available before the recently enacted SECURE Act. This is due to the elimination of the life expectancy, or stretch, payout. If it is important to you to minimize the additional future income tax caused by the 10-year payout, there are several items worth considering.

Roth IRA Conversions. It may make sense to systematically convert an IRA to a Roth IRA over many years if the tax rate on the conversion is less than the tax rate the beneficiary will ultimately pay.

Life Insurance. Another option is to withdraw funds from your retirement account to purchase whole life insurance on your life. The beneficiary can be a trust designed to make distributions to the beneficiary over an extended period of time. The trust would receive the life insurance proceeds income tax-free. Whether or not this strategy will increase the value of the beneficiary’s ultimate inheritance should be carefully analyzed and will depend on many factors outside of your control.

Charitable Remainder Trusts. A charitable remainder trust (“CRT”) can be named as the beneficiary of a retirement account. A CRT pays an amount to one or more individuals for life (or for a fixed period up to 20 years), with the remainder passing to charity. The CRT can be structured so the payouts are similar to a stretch, except that additional principal payments cannot be paid from a CRT, even if there is an emergency. Also, the charity’s interest in a CRT must be at least 10 percent of the value of the trust, so these should only be considered if you have charitable intent.

Leaving Retirement Accounts Outright to Charity. If you have charitable intent, tax-deferred retirement accounts are often the most tax-efficient way to fund charitable contributions at your death. As charities are exempt from paying income taxes, the retirement account will be worth much more to a charity than it would be to anyone else who would be required to pay income taxes on withdrawals of the retirement funds. In other words, leaving your retirement account to charity can completely eliminate the income taxes associated with the account, but, obviously, at the expense of leaving less assets to your family members or other intended beneficiaries. 

Qualified Charitable Distributions. Those 70½ and older may continue to make qualified charitable distributions (“QCDs”) to public charities. However, one important change impacting QCDs is that contributions to a traditional IRA after age 70½ will reduce the amount of eligible QCDs, even if the QCDs occur years after the contributions were made to the traditional IRA. We will cover more on QCDs in the next installment of this series.

In addition to the planning options mentioned above, there are additional planning strategies that may be utilized to reduce the overall tax burden if you decide to direct your retirement account to a trust for your beneficiaries.

It is important to review your estate plan in light of the changes brought about by the SECURE Act. Please contact someone in our Trusts & Estates Practice Group to discuss the changes mentioned above, how they may impact your plan, and the planning options available.

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