IRAs Payable to Non-QTIP IRA Trusts

• Author: Seymour Goldberg
• Profession: Senior partner in the law firm of Goldberg & Goldberg, P.C., in Woodbury, New York
• Pages: 83-100

Many taxpayers often have retirement assets such as IRAs payable to

trusts. These trusts can be revocable trusts, irrevocable trusts, or trusts

under a will.

If done correctly, these trusts can in essence result in a windfall for the

trust beneciary and provide him or her with a long-term benet. How-

ever, if done incorrectly or if the trust unks the IRS rules, including the

IRS nal regulations and rulings, then it can be a time bomb with devas-

tating problems for the trustee and possibly the professional adviser who

is involved in the creation of the trust and/or the compliance aspects of

the trust after the death of the IRA owner or employee plan participant

whose retirement account or IRA account is payable to a trust.

An IRA trust can generally provide for protection against the creditors

of the trust beneciary and prevent the trust from being included in the

trust beneciary’s estate for estate tax purposes if the trust beneciary dies

during the payout period. In addition, the IRA trust can be used as a gen-

eration-skipping vehicle and also as a credit shelter trust if done correctly.

In the event that the IRA trust is nonqualifying (a trust that does not

satisfy the IRS stretch payment rules), then signicant tax problems and

other liability issues may be triggered. This can become a problem for

the trustee and possibly the trustee’s advisers as well. Please review the situ-

ations described in this section for additional pitfall issues.

There are a number of problems that exist from a legal point of view

when drafting an IRA trust. If a practitioner is not versed in the state trust

law that denes income and principal, then the trust document may be

written in a manner that is inconsistent with the intent of the grantor.

83

IRAS PAYABLE TO

NON-QTIP IRA TRUSTS

(THE GOOD, THE BAD, AND THE UGLY)

For example, if the IRA trust provides that income shall be paid to

the trust beneciary each year, then one must examine the denition of

income when a required minimum distribution is paid to the trust under

state law. Many of the states have adopted a version of the 1997 UPAIA.

In a non-QTIP IRA trust, the denition of income in most (but not all)

adopting jurisdictions of the 1997 version of the UPAIA is 10 percent of

the required minimum distribution amount received by the trust. In that

case, if the required minimum distribution payable to the IRA trust is

$30,000, then the trust beneciary will receive only 10 percent of $30,000,

or $3,000, not $30,000. However, if the trust provision provides that Joey,

the nonspouse trust beneciary, shall receive the greater of income or the

required minimum distribution that the trust receives each year, then Joey

will receive $30,000, not $3,000. If the trust states only that Joey receives

income (not the greater of income or the required minimum distribution

amount), then if Joey was erroneously paid $30,000 instead of $3,000, the

trustee has a signicant legal problem. The trustee would have to advise

the trust beneciary, Joey, that he was overpaid by $27,000. This over-

payment can lead to headaches for the trustee if Joey paid income taxes

on the $30,000 amount and spent the remaining money.

Many other drafting issues must be covered in the trust document

as well. For example, if the IRA trust provides for the payment of trust

expenses (which it should and generally does), then trust expenses are

generally charged against trust income under state trust law. However,

if the trust income is only 10 percent of the required minimum distri-

bution amount, then it may not be sufcient to support the payment of

trust expenses. For that reason, I suggest that a non-QTIP trust provide

that any trust expenses be charged against principal, not income. In that

connection, when a non-QTIP IRA trust is used, I suggest that the trust

provide that all distributions received by the trust from the decedent’s

IRA be considered principal and that the trustee shall accelerate distribu-

tions from the IRA to the trust in order to pay the trustee expenses, which

are also charged against principal. The author does not offset the trust

expenses against the required minimum distribution amount payable to

Joey even though an IRS letter ruling permits the netting approach. An

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