Anyone familiar with a conduit IRA trust?

[pb4uski]

Hey all. We are refreshing our estate planning since we recently moved from Florida to Texas.

Because DW was a SAHM, it turns out that my traditional IRA is our largest asset despite Roth conversions over the last 13 or so years since I retired. About 35% of our net worth including properties and almost 1/2 of our retirement savings. Currently, DW is the primary beneficiary and our two kids are contingent beneficiaries which I think is pretty typical for those in our situation.

What I want to happen is for that IRA to be used to support DW should I predecease her and then any money not used for her support go to our two kids. While I think it unlikely, I've heard enough horror stories about wealth going to the next spouse or the next spouse's kids or even just depleted and spent on some charming gold digger that I want to protect against any such outcomes.

I've read about conduit IRA trusts that would be the primary beneficiary and provide some guardrails on IRA withdrawals and restrict who can inherit the IRA once DW passes. Any RMDs based on DW's life would be paid by the IRA to the trust and then distributed to DW in the same year just like if she inherited the IRA. In addition to RMDs, the trustee could make additional IRA withdrawals to the trust and have the trust distribute them to DW if needed for DW's care and support (like if needed because she went into assisted living or a nursing home). OTOH, DW would not have totally unrestricted access to the IRA like she would if she inherited it and could not name different beneficiaries.

To be clear, between RMDs from this traditional IRA, my SS that DW will "inherit" and my joint life pension, DW will be receiving more than we spend today as a couple, so she will be well provided for.

Thought? Anyone familiar with these?

 

[Lewis Clark]

I'm not familiar with trusts but you are right to be thinking about this. The book I mention below is written by an experienced estate attorney. He devotes a big chunk of the book to issues like this.

I highly recommend the book to anyone not familiar with it.

Beyond the grave : the right way and the wrong way of leaving money to your children (and others)
By Jeffrey L. Condon

 

[AudiDudi]

Our Trust clearly states that once one of the co-trustors passes, the beneficiaries cannot be changed.
"After the death of the first Trustor, the surviving Trustor shall not have the power to amend the deceased Trustor’s outlined beneficiaries". But that doesn't stop the surviving Trustor from spending down the IRA/401k which I believe is your concern.

 

[RetiredHappy]

Alternatively, distribute a portion of the IRA/taxable assets to your children once you pass. Your spouse will be free to spend what she inherits.

We are equal financially (3rd marriage for both of us), and I can tell you that I would be resentful if my spouse puts conditions on the funds that are left to me if he passes before me. In our situation, my spouse does not have children and has no qualms about leaving me what he has. In my case, I leave my son my taxable accounts, which would be sufficient to support his fairly frugal needs for the rest of his life. He has ASD, and hence he is always at the top of my consideration. I leave my half of the home and (IRA) annuities to my spouse. In the revocable trust, my spouse is to leave everything to my son, but if he amends it, my son will still be fine. If I have my wish, I would have it not be "amendable", but knowing my spouse, he would blow a gasket if I had suggested it.

 

[MarieIG]

Interesting. In the event your DW agrees, I believe that it can be done for her lifetime as she would be the sole, designated beneficiary during her lifetime. It may tie her hands a bit as to arranging her income for income tax flexibility.

 

[MarieIG]

Alternatively, distribute a portion of the IRA/taxable assets to your children once you pass. Your spouse will be free to spend what she inherits.

We are equal financially (3rd marriage for both of us), and I can tell you that I would be resentful if my spouse puts conditions on the funds that are left to me if he passes before me. In our situation, my spouse does not have children and has no qualms about leaving me what he has. In my case, I leave my son my taxable accounts, which would be sufficient support his fairly frugal needs for the rest of his life. He has ASD, and hence he is always at the top of my consideration. I leave my half of the home and (IRA) annuities to my spouse. In the revocable trust, my spouse is to leave everything to my son, but if he amends it, my son will still be fine. If I have my wish, I would have it not be "amendable", but knowing my spouse, he would blow a gasket if I had suggested it.

I think it depends upon the situation. It's the first, long-term, marriage for both of us and we share all progeny. I would not agree to sign off on any portion of his retirement accounts in favor of those children. He has not mentioned it, and when I he created the IRAs, I he named me as the primary beneficiary, and the children as contingent beneficiaries. As an aside, I paid the income tax for all of his Roth conversions.

Our oldest might brake an ankle running to a car dealership when we shuffle off this mortal coil.

I would have no objection to his leaving his inheritance (which he has not yet received) to the children. I suspect that he would prefer to spend his inheritance on the children and grandchildren while he is still living, and again, I would not object to that.

DH is my beneficiary on retirement accounts with the children as contingent beneficiaries. But I do understand PB's concerns. I would be fine if all my assets were spent for his care, comfort and support, but I would not want some scammer to steal the assets. I have considered creating a discretionary trust with my inherited assets for DH's (additional) support, he will have his pension, SS, two annuities, his IRAs, a 401k the marital home, and cash.

 

[SecondCor521]

I like RetiredHappy's suggestion of making your two kids co-primary beneficiaries with your wife in whatever percentages make sense - for example 1/3 to wife, 1/3 to kid #1, 1/3 to kid #2, or 20%/40%/40%.

The risk with that is potentially impoverishing your wife in her later years if you don't leave her enough, and maybe the kids don't take care of her like they should because they spent it all or gold diggers got to them.

I think you know about the issue of any IRA distributions into the trust which were not fully distributed to your wife would be more heavily taxed. Your trustee would generally get to decide which was more important - protecting the assets inside the trust or lowering the overall income tax burden.

The other thing I'd suggest doing before you get it all set up is to understand that your conduit trust can be amended after you die. Even if you write in the trust that it can't be changed...it still can. I think the logic is that a lot of times people die with trusts and the language of the trust combined with then current trust laws mean the results are suboptimal for the beneficiaries. And the beneficiaries should be able to benefit. So basically they can go to a judge and say, "Hey, we all agree that we want to change how this trust works." And the judge will go along with it, pretty much.

This goes by different terminology in different states. In my states, which is one of only a handful, it is called "TEDRA". In most other states, I think the terminology is "decanting a trust".

I know about this because we did a TEDRA modification to a trust when my Mom died. They had a complicated asset division formula that was based on 17 year old tax law, and so the lawyer advised we change it.

Especially if you're talking a lot of dollars, essentially there can be enough resources and motivation for a determined set of beneficiaries to change a trust in this manner. Which I suspect may be your situation. Our TEDRA modification was in the very low five figure range.

My point to you is there is no point in you setting up a conduit trust to protect against changes after you die if changes can be made to the trust itself.

(Yes, the courts do struggle with the fact that they're overriding / disregarding the express written wishes of the trust grantor(s). But the trust grantor(s) do not show up in court to complain.)

 

[pb4uski]

Interesting. In the event your DW agrees, I believe that it can be done for her lifetime as she would be the sole, designated beneficiary during her lifetime. It may tie her hands a bit as to arranging her income for income tax flexibility.

On the last part, it shouldn't tie her hands regarding income tax flexibility in that we are of the same age and just a few years away from RMDs and the conduit trust would require that all RMDs that the trust receives from the IRA be distributed to DW in the year the trust receives it and that would be the same as if she held it as an inherited IRA.

 

[pb4uski]

I think it depends upon the situation. It's the first, long-term, marriage for both of us and we share all progeny. I would not agree to sign off on any portion of his retirement accounts in favor of those children. He has not mentioned it, and when I he created the IRAs, I he named me as the primary beneficiary, and the children as contingent beneficiaries. As an aside, I paid the income tax for all of his Roth conversions.

Our oldest might brake an ankle running to a car dealership when we shuffle off this mortal coil.

I would have no objection to his leaving his inheritance (which he has not yet received) to the children. I suspect that he would prefer to spend his inheritance on the children and grandchildren while he is still living, and again, I would not object to that.

DH is my beneficiary on retirement accounts with the children as contingent beneficiaries. But I do understand PB's concerns. I would be fine if all my assets were spent for his care, comfort and support, but I would not want some scammer to steal the assets. I have considered creating a discretionary trust with my inherited assets for DH's (additional) support, he will have his pension, SS, two annuities, his IRAs, a 401k the marital home, and cash.

We are similiarly situated. Both first and only marriage and both kids our kids. For all intents and purposes, other than what I inherited from my parents, the rest we view as "our" money.. including my tIRA which is our biggest asset.

The plan was similiar to you, DW is beneficiary and kids are contingent beneficiaries and the notion is that whatever she doesn't need would go to our kids. While I think the outcomes that I am looking to protect against are remote, they nonetheless are non-trivial possibilities so it seems prudent to protect the kids. It isn't symetrical in our case since her IRA is only about 5% of my IRAs.

What I am thinking of is along the lines of what your last paragraph says. If after I pass DW goes into assisted living or a nursing home and the assets are all used for her care, then that's ok with me. It is the more notorious possibilities that I'm interested in protecting against.

Technically, I can decide this unilaterally since IRAs are "individual" accounts but I wouldn't do so if she objects. We have discussed it and while she isn't keen on it she isn't totally resistant either.

 

[pb4uski]

I like RetiredHappy's suggestion of making your two kids co-primary beneficiaries with your wife in whatever percentages make sense - for example 1/3 to wife, 1/3 to kid #1, 1/3 to kid #2, or 20%/40%/40%.

The risk with that is potentially impoverishing your wife in her later years if you don't leave her enough, and maybe the kids don't take care of her like they should because they spent it all or gold diggers got to them.

I think you know about the issue of any IRA distributions into the trust which were not fully distributed to your wife would be more heavily taxed. Your trustee would generally get to decide which was more important - protecting the assets inside the trust or lowering the overall income tax burden.

The other thing I'd suggest doing before you get it all set up is to understand that your conduit trust can be amended after you die. Even if you write in the trust that it can't be changed...it still can. I think the logic is that a lot of times people die with trusts and the language of the trust combined with then current trust laws mean the results are suboptimal for the beneficiaries. And the beneficiaries should be able to benefit. So basically they can go to a judge and say, "Hey, we all agree that we want to change how this trust works." And the judge will go along with it, pretty much.

This goes by different terminology in different states. In my states, which is one of only a handful, it is called "TEDRA". In most other states, I think the terminology is "decanting a trust".

I know about this because we did a TEDRA modification to a trust when my Mom died. They had a complicated asset division formula that was based on 17 year old tax law, and so the lawyer advised we change it.

Especially if you're talking a lot of dollars, essentially there can be enough resources and motivation for a determined set of beneficiaries to change a trust in this manner. Which I suspect may be your situation. Our TEDRA modification was in the very low five figure range.

My point to you is there is no point in you setting up a conduit trust to protect against changes after you die if changes can be made to the trust itself.

(Yes, the courts do struggle with the fact that they're overriding / disregarding the express written wishes of the trust grantor(s). But the trust grantor(s) do not show up in court to complain.)

Good points. As you recognize, if I go 1/3 each then I risk DW not having enough if it ends up that she is in assisted living or a nursing home so I'm not keen on that 1/3 each option. Though I'm sure neither of our kids would allow their mother to live poorly to protect their inheritance.

[Small aside, DW and I have different views on taking or not taking a toll road to/from DD's house... I'm more inclined to do so because the toll is only $3 and it saves stopping at 4 or 5 stoplights if I take the non-toll road. One the way home from DD's tonight the subject came up and I explained to DW that it doesn't cost her anything in that it essentially comes out of the kids' inheritance DS was in the back seeat and chimed in "I'm ok with that". ]

These conduit trusts require that all distributions that the trust receives from the IRA be distributed to the beneficiary (DW) in the same year as received by the trust. I have to research it but I suspect that the trust would have a EIN and the IRA would 1099 distributions to the trust and the trust would prepare a 1041 each year and issue a K-1 to DW with the pension distributions that she receives from the trust and that would go on her tax return. As a result the taxation would be identical to if she just inherted the IRA from me.

On the amendment after I'm gone part, I understand and would have no objection to changes after I am gone in response to changes in tax law as long as all beneficiaries of the trust (DW, DD and DS) unamiously agree.

 

[pb4uski]

Alternatively, distribute a portion of the IRA/taxable assets to your children once you pass. Your spouse will be free to spend what she inherits.

We are equal financially (3rd marriage for both of us), and I can tell you that I would be resentful if my spouse puts conditions on the funds that are left to me if he passes before me. In our situation, my spouse does not have children and has no qualms about leaving me what he has. In my case, I leave my son my taxable accounts, which would be sufficient to support his fairly frugal needs for the rest of his life. He has ASD, and hence he is always at the top of my consideration. I leave my half of the home and (IRA) annuities to my spouse. In the revocable trust, my spouse is to leave everything to my son, but if he amends it, my son will still be fine. If I have my wish, I would have it not be "amendable", but knowing my spouse, he would blow a gasket if I had suggested it.

Is the revocable trust that you are referring to your revocable trust (you are grantor, trustee and beneficiary until you pass) or a joint revocable trust (you are both grantors, trustees and beneficiaries)?

If the former... your revocable trust... then after you pass the trust becomes irrevocable and cannot be changed after you pass.

If the latter, a joint living trust, then it depends on the joint trust's provisions.

 

[SecondCor521]

Good points. As you recognize, if I go 1/3 each then I risk DW not having enough if it ends up that she is in assisted living or a nursing home so I'm not keen on that 1/3 each option.

Sure, understood.

These conduit trusts require that all distributions that the trust receives from the IRA be distributed to the beneficiary (DW) in the same year as received by the trust. I have to research it but I suspect that the trust would have a EIN and the IRA would 1099 distributions to the trust and the trust would prepare a 1041 each year and issue a K-1 to DW with the pension distributions that she receives from the trust and that would go on her tax return. As a result the taxation would be identical to if she just inherted the IRA from me.

Yes, that's all correct. We had an accountant prepare the 1041 for our trust the first year, and I've done it every year since. If you pass all the income through, it's not hard. If your wife pays someone to prepare the 1041, it'll probably be $500-$1000 per year.
Usually the income retains its nature, so the 1099-R income to the trust is ordinary income, and remains ordinary income to your wife. Since it would come to her via a K-1, it would show up in a different place than line 4b on her 1040. I don't recall exactly where, but it's not hard to find.

On the amendment after I'm gone part, I understand and would have no objection to changes after I am gone in response to changes in tax law as long as all beneficiaries of the trust (DW, DD and DS) unamiously agree.

Sure. I'm not sure how much of a rationale there has to be for the beneficiaries to make changes. So I don't know how you write your conduit trust document so that they can make changes that you're OK with (tax law changes) but not make changes that you're not OK with (like changing where that money flows). My point to you is that even if you put that language in there, like "After I die, they can make changes due to tax laws but not to change where the money flows", there may be enough flexibility in terms of TEDRA/decanting so that your wishes are overridden. I guess I suggest you check with a lawyer to see how much protection your conduit trust actually provides in practice.

 

[pb4uski]

...If your wife pays someone to prepare the 1041, it'll probably be $500-$1000 per year.
Usually the income retains its nature, so the 1099-R income to the trust is ordinary income, and remains ordinary income to your wife. Since it would come to her via a K-1, it would show up in a different place than line 4b on her 1040. ...

DD would be the successor trustee when I pass and she is a CPA and it is a simple return so I expect the cost to be negligible. Once I'm gone, DD will likely take over preparing DW's return too.

 

[pb4uski]

....I'm not sure how much of a rationale there has to be for the beneficiaries to make changes. ...

My understanding is that it is a very high hurdle to change a trust's provisions after it becomes irrevocable, even if all beneficiaries agree.

 

[SecondCor521]

My understanding is that it is a very high hurdle to change a trust's provisions after it becomes irrevocable, even if all beneficiaries agree.

Just guessing from what I've seen: lawyers selling conduit trust preparation work would tend to agree; lawyers selling trust decanting work would tend to disagree. There are far more of the former type than the latter type, but the latter type exist.

I guess very practically speaking, if you want to spend the money and time and it makes you feel better, that's all that matters. If it gets changed, well, you tried, and you'll be gone (I'll miss you).

 

[RetiredHappy]

Is the revocable trust that you are referring to your revocable trust (you are grantor, trustee and beneficiary until you pass) or a joint revocable trust (you are both grantors, trustees and beneficiaries)?

If the former... your revocable trust... then after you pass the trust becomes irrevocable and cannot be changed after you pass.

If the latter, a joint living trust, then it depends on the joint trust's provisions.

We have a joint revocable trust with 2 trustees (both of us) and also separate property trust where each of us is the sole trustee of our separate property trust. Assets titled as separate property like my brokerage and checking accounts, get passed to my son directly. Our home is titled under our joint revocable trust. I had suggested that my half of it gets passed on to my son after my spouse dies or sells the home, and my husband blew a gasket. That was the end of that discussion.

 

[Out of Steam]

My understanding is that it is a very high hurdle to change a trust's provisions after it becomes irrevocable, even if all beneficiaries agree.

A friend has run into this with her father's wife. The stepmother has a life estate in the home the family grew up in, but has been in assisted living for years. Because the house could use renovation, it does not produce much rental income after management expenses and property taxes.

All concerned, including the 100-ish stepmom, would be far better off with an annuity bought with some of the sale proceeds, but it can't be done.

 

[Out of Steam]

Alternatively, distribute a portion of the IRA/taxable assets to your children once you pass.

My wife and I will be taking a small step in this direction in the next month or so. We have decided that there isn't much purpose in transferring our cars to each other on death. We're planning to take advantage of a provision of Virginia vehicle titles to transfer them directly to our daughter on our deaths.

In the case of my car, it will have to await the car being paid for, so it will be just my wife's for now.

 

[TickTock]

DW and I have a trust. We set it up with a law firm that specializes in trusts and it w*rks for us to do what we want it to do. We consider it money well spent, including the ongoing yearly fee (which buys us, among other things, a free annual review and rework if needed.)

I'm not familiar with what you're describing. I advise going to a law firm that knows how to put the right legal language in the trust so that it does what you want.

Is DW on-board with how you want it to w*rk?

 

[badatmath]

What if the DW remarries? And marries someone with kids they want to help?

 

[pb4uski]

^^^ You nailed it. That's the whole purpose of the conduit trust. I'm a-ok with those assets being used for DW's support and welfare after I am gone but to the extent it isn't needed for her support and welfare I want to make sure that whatever is left goes to our kids and not any second husband or second husband's children.

 

[pb4uski]

... Is DW on-board with how you want it to w*rk?

Yes. She was initially reluctant but once DD (a CPA) and I showed her that she would be well provided for for the rest of her life then she was on board.

 

[pb4uski]

A friend has run into this with her father's wife. The stepmother has a life estate in the home the family grew up in, but has been in assisted living for years. Because the house could use renovation, it does not produce much rental income after management expenses and property taxes.

All concerned, including the 100-ish stepmom, would be far better off with an annuity bought with some of the sale proceeds, but it can't be done.

Interesting. Our Vermont property has an enhanced life estate deed. As I recall, a life estate allows you to use the property or rent it and keep the rent, but not sell it. OTOH, an enhanced life estate also allows you to sell the property and keep the proceeds.

 

[TickTock]

Excellent! Then it's just a matter of getting the trust set up so that it does what you and DW want it to do. In this case I consider money for legal experts well spent.

ETA - Well, I wish it wasn't necessary to have your plain wishes put into the 'proper' legalese. But since we both live in the real world, I consider the best / least worst option.

 

[badatmath]

My understanding is that it is a very high hurdle to change a trust's provisions after it becomes irrevocable, even if all beneficiaries agree.

I do know someone who successfully broke a trust. It took about 2 years. . . ironically her husband had set it up that way cause he knew she would blow all the money . . . and once she broke it she DID blow all the money . . . I can't say what might have not been done correctly but this woman is not especially brilliant. Last I heard she had to get a job and sell the house IDK.