The Tip That Could Save Your IRA Heirs Thousands

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Don’t want to disappoint your heirs? Do your IRA beneficiary designations the right way.

Have you made a common mistake that can cost your heirs thousands of dollars?

If you’ve named your “Estate” as the beneficiary of your IRA, you’re handing the IRS a blank check that could potentially add up to thousands of dollars in extra taxes.

The good news?

It’s a simple mistake that can take less than 5 minutes to fix.

Make it a practice to check your IRA beneficiaries each and every year for needed updates (we do this for clients as we prepare their Annual Review).

If your “Estate” is listed as a primary beneficiary, consider substituting the names of other heirs instead.

Why shouldn’t you name your Estate as beneficiary? In the eyes of the IRS, your estate is not a person and therefore has no life expectancy. That bars it from “stretching out” distributions after your death. All money will need to be withdrawn – and taxed – within 5 years, or over your life expectancy, depending on your age at death.

Compare that with the considerable tax advantages of “stretching out” distributions. When you name a person as a beneficiary, they can “stretch out” IRA withdrawals over many, many years, especially if they are younger than you.  That lets the money grow longer and minimizes taxes.

The difference is striking. Let’s look at a simple example. Your Aunt Vera dies at age 77 and leaves her $50,000 IRA to your daughter Laura, who’s only 23 years old. If Laura takes only the minimum withdrawal required each year until her death at age 84, she’ll withdraw a cumulative $1,019,951 from the account, assuming a 8% annual rate of return. Aunt Vera’s IRA certainly turned into a pretty good nest egg for Laura, helping her pay for grad school, buy her first house, and fund her own kids’ college education.

But let’s say Aunt Vera didn’t understand the advantages of a “stretch” IRA, and named her Estate as the IRA beneficiary, with Laura inheriting from the Estate. At her death, the Estate will be forced to speed up IRA withdrawals, and will receive only $80,597 from the account before it’s totally depleted.

The Takeaway: Review your beneficiary designations with your financial or estate planning advisor to make sure they reflect your wishes and do the most good for your heirs.

By the way, do you know the difference between your primary beneficiary and your contingent beneficiary? Your primary beneficiary, or beneficiaries, is one you’ve identified to receive your assets after your death. Your contingent beneficiaries receive your assets only if your primary beneficiaries are no longer alive at the moment of your death.

About Mari Adam

Mari Adam, Certified Financial Planner™ has been helping individuals and families chart their financial futures for over twenty-five years. Have a question about your financial situation? Ask Mari!


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