Reviewing Your Estate Plan
by Vance Antonacci
The current year sees us coming off a good year in the stock market and an economy that is strong. However, in November there is another presidential election cycle, which could bring change to which political party controls the federal government (or a part of it). What should clients being doing this year to plan? Some ideas to consider:
- First, as always, you should review your estate plan to ensure that your fiduciary appointments are up to date. Fiduciaries include your executor, your trustee, agents under powers of attorney, and guardians if you have minor children. Your circumstances may have changed – for example, your guardians moved or your trustee who is appointed is no longer an option due to age.
- The passage of the SECURE Act should prompt a review of your personal financial plan as well as your estate. In general, the SECURE Act altered how non-spouse beneficiaries receive retirement accounts (the account must be fully distributed within 10 years). If you have a trust as part of your estate plan to manage an IRA for a beneficiary, the impact of this accelerated pay out should be evaluated.
- For those clients with more significant estates, you should be considering whether to make a larger gift this year. Although the current increased exemption amounts are not scheduled to decrease until January 1, 2026, there is a risk that a change in the control of the government could usher in a change to the estate and gift tax laws next year. Also, gifting sooner rather than later could avoid additional appreciation in the value of the property to be gifted.
- Interest rates remain low, which makes certain estate planning techniques attractive. For example, low interest rate loans to family members could be made. Also, techniques such as grantor retained annuity trusts and intentionally defective grantor trusts benefit from lower interest rates.
- You should review your life insurance coverage to makes sure it is adequate. If your life insurance is meant to replace lost income in the event of a death, then the amount of coverage may be inadequate if your income has increased. Also, if you have a universal life or whole life policy, you should consider obtaining an in force illustration to confirm the policy is performing adequately.
- If there is an older trust (such as a trust set up for the surviving spouse when the estate tax exemption amount was lower), you may want to consider terminating the trust or amending it to grant the surviving spouse a general power of appointment in order to obtain an income tax basis step up when the surviving spouse dies. Although this will trigger an inheritance tax, the savings on the income tax may be worth it.
As always, it is important to periodically review your estate plan. Every client’s circumstances are different and those circumstances can change over time. Plus, ever changing tax laws make warrant a review.
The Effect of the Secure Act on Trusts
by Andrew Rusniak
The Setting Every Community Up for Retirement Enhancement (SECURE) Act, enacted as a part of the recent appropriations bill and signed into law on December 20, 2019, made significant changes to the retirement planning system. These changes also had a substantial impact on the way that trusts should be drafted if they are to receive retirement plan benefits. Because of these changes, clients are encouraged to review their current estate plan documents (including Wills and trust agreements) to ensure that their estate plans will continue to achieve their objectives in light of the changes to the tax code.
Trusts have always played an important role in estate planning. For example, trusts are useful for managing the inheritance of a young beneficiary. Trusts are also useful for sheltering an inheritance from estate and inheritance taxes and for providing creditor protection to a beneficiary. In order for trusts to achieve their intended purpose, however, they must be funded, and for many years it has been common planning to name a trust as a beneficiary of retirement accounts, such as IRAs and 401(k)s. Because retirement accounts are controlled by beneficiary designation, and not by the account owner’s Will, it is critical to align your beneficiary designations with the provisions of your Will. For example, if your estate plan provides that your estate will be divided equally between trusts established for your two children, the beneficiary designations of your retirement accounts (and life insurance policies) should be aligned with that plan and should name the trusts for your children (and not your children, individually) as the equal beneficiaries of those accounts.
Prior to the SECURE Act, the beneficiary of an inherited IRA could generally “stretch” the required minimum distributions (“RMDs”) out of the account over his or her life expectancy. This “stretch” allowed for continued income tax deferral for many years (potentially decades if the beneficiary was young). The SECURE Act did away with the ability of a beneficiary to stretch RMDs out over lifetime for all but a limited class of beneficiaries. Instead, beneficiaries of an inherited IRA are now generally required to withdraw the full balance of the account within 10 years of the original account owner’s death. From the government’s perspective, the purpose of the elimination of the stretch is to accelerate the required withdrawals out of the retirement account, which forces the beneficiary to recognize income over a much shorter period of time.
The loss of the stretch IRA is particularly impactful on trusts that have been designated as beneficiaries of retirement accounts. Trusts that are designed to receive retirement accounts have always been drafted as either “conduit trusts” or “accumulation trusts.” Historically, a trust had to qualify as one of these two variations in order to achieve the benefit of the lifetime stretch. If a trust did not qualify as one of the two, the tax code required the trust to withdraw the retirement account within 5 years.
Prior to the SECURE Act, estate planning attorneys routinely drafted trusts to qualify as “conduit trusts,” as the conduit trust rules were the one “safe harbor” provided by the tax code. In order to qualify as a conduit trust, however, the trust had to require that all RMDs withdrawn from the account be immediately distributed to the beneficiary. Because of the lifetime stretch, RMDs in early years were typically small, and practitioners were less concerned with pushing them out because the bulk of the retirement account could be preserved.
With the enactment of the SECURE Act, it is important to rethink the use of the conduit trust as default planning for retirement account trusts. As noted above, the SECURE Act now requires retirement accounts to be withdrawn within 10 years of the account owner’s death. Therefore, if a conduit trust is used moving forward, the entire retirement account will be distributed to the trust beneficiary within 10 years, which may not be the account owner’s intent.
A conduit trust is no longer appropriate for a beneficiary in a high income tax bracket, a spendthrift, or a beneficiary in need of creditor protection (assuming it was ever appropriate for such a beneficiary). It is also no longer be appropriate for any type of beneficiary if the account owner desires the protections of a trust, as those benefits will be available for a maximum of 10 years. Instead, clients should consider the use of the “accumulation trust,” which allows a Trustee to accumulate retirement plan benefits within the trust, which preserves and protects the benefits for later distribution to the trust beneficiaries. Accumulation trusts must be drafted to prohibit anyone who is not an individual from ever being eligible to receive a distribution from the trust. Care should be taken to ensure that charities and other non-individual beneficiaries are precluded from distributions. Best practices typically dictate that retirement plan benefits be held in a separate “sub-trust” to ensure compliance with the strict accumulation trust rules.
The tax code is ever changing, and estate plan documents should be updated as the law evolves. Clients are encouraged to review their current estate plan documents to ensure that their estate plans will continue to achieve their objectives in light of these recent changes.