Preparing for the Death of the Stretch IRA with James Lange, CPA/Attorney

Episode: 157

The Lange Money Hour - Where Smart Money Talks

The Lange Money Hour: Where Smart Money Talks
James Lange, CPA/Attorney
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TOPICS COVERED:

  1. Show Introduction: Preparing for the Death of the Stretch IRA
  2. IRAs and Required Minimum Distributions
  3. What is the “Stretch” IRA?
  4. Now that We know about the Stretch, What is the Death of the Stretch?
  5. How to Prepare for the Death of the Stretch

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1. Show Introduction: Preparing for the Death of the Stretch IRA

Dan Weinberg: And welcome to The Lange Money Hour. I’m Dan Weinberg, along with CPA and attorney Jim Lange. Tonight, what happens to your IRA when you die? Right now, the law in this area is quite favorable for your children and heirs, but things might be changing. Over the next hour, Jim will explore the status of the looming death of the stretch IRA. He’ll talk about how the existing law works, how likely it is that that law will change, and how the proposed legislation could devastate your family’s inheritance. He’ll also touch upon how a change could affect your future tax bills, and perhaps most importantly, Jim will share some ideas about how you can prevent this potential change from wreaking havoc on your estate plan. Now, the show will be focusing on this topic (the death of the stretch IRA), but please do feel free to call in with other questions about IRAs, investing and estate planning as well. The number here in the studio is (412) 333-9385, and without further ado, let’s say good evening to Jim Lange.

Jim Lange: Thank you, Dan. So, what we’re going to talk about today is what happens to your IRA after you die? What is the existing law if you, let’s say, name your spouse, what if you name your children, what if you name your grandchildren? How does it work? We’re also going to talk about what is a very likely change in the law that will have some devastating impact on your family. So, why would we talk about a law that hasn’t passed yet? It’s because, to me, there is such a high percentage, or degree of certainty, that this will pass, and since there are things that you can do about it now, both to prepare for when it does pass and actual proactive things that you can do right now that will have an enormous impact on your family, I want to go into some of those details. We’re going to talk about the proposed legislation, the details of it, we’re going to talk about the odds of it getting passed, and then we’re going to talk about the effective dates and what you can do before and after the effective dates and grandfathering the old law. So, I think you’re going to be in for a great show. Like Dan said, we’re happy to take questions, and it’s not going to be quite the back and forth with guests that I usually have because, frankly, this is a little bit of a technical issue that I wanted to handle on my own.


2. IRAs and Required Minimum Distributions

Jim Lange: All right. So first, let’s talk about your IRA, and let’s not start with the dying part. Let’s talk about the living part, and let’s talk about your minimum required distribution. So, let’s say, for discussion’s sake, that you are sixty-eight years old, or, for that matter, any age that is less than seventy (and technically, April first of the year following the year you turn seventy-and-a-half), and you don’t have to take anything from your IRA. To use a nice round number, let’s say you have a million dollars in your IRA and you have not reached seventy, and let’s assume that you also have money outside the IRA. I call that ‘after-tax dollars’: savings, inherited money, maybe you have income from Social Security or a pension. But you have other monies that you can spend rather than your IRA. Well, remember, anytime you make a withdrawal from your IRA…and by the way, when I say IRA, and for the purpose of this entire show, I will also mean that to include your 401(k), your 403(b), your 457, your SEP, your KIO, whatever type of qualified retirement plan. What all of these plans have in common is that nobody has yet paid income taxes on these plans. Either you or an employer or some combination of you and your employer contributed to these plans. You got a tax deduction, or, looked at another way, you didn’t have to pay the income tax on that money. The money has grown income tax deferred, that is, as this money is sitting in your retirement plan, it is building. You don’t have to pay tax on it. But someday, somebody is going to have to pay income tax on it. All right, so, let’s assume again that you have other resources that you can spend. So, you don’t want to pay taxes now, with the exception of the Roth IRA and maybe a few other circumstances. But the general rule is you want to pay income tax later. Don’t pay taxes now, pay taxes later.

All right. So, you’re sixty-eight years old and you let your million dollars just sit there, and let’s just say, for discussion’s sake, it earns six percent. So now, you’re sixty-nine years old and it’s a million sixty, and then, let’s say it earns another six percent. Now, you’re seventy years old, and without getting into the little nuances about April first of the year after you turn seventy-and-a-half, let’s just assume that it’s time for your minimum required distribution.

So, the next question is how do you calculate your minimum required distribution? Because if, as before, you didn’t want to pay income taxes on money that you don’t need, you only want to take out the absolute minimum from your IRA or retirement plan. That’s why it’s called the ‘minimum required distribution.’ Okay, so how do you calculate your minimum required distribution? Well, you go to Publication 590, and in Publication 590, you can get a factor, and the factor actually becomes the divisor. So, let’s say that your beneficiary is your spouse, and your spouse is not more than ten years younger than you, or it’s your kids or your grandkids or your partner or your friend or whatever it is. But let’s say, basically, anybody except a spouse who’s more than ten years younger than you. Then what will happen is you will get a factor from Publication 590, and the first factor would be 27.4. And that’s the divisor. So, what the heck does that mean? Well, think about it. If the divisor was 25, that, in effect, is 4%. So, if the divisor is more than 25, that means the minimum required distribution is a little bit less than 4%. All right, so that’s how much money you have to take out. In this case, the money that you would have to take out from the IRA is $41,000. All right? You take that out, you have to pay tax on it. No choice there.

Now, if the investment that the IRA is in is earning, let’s say, 6%, and you’re taking out 4%, then, notwithstanding the fact that the IRA is in, what we’ll call, ‘distribution mode,’ that is, you’re over seventy, the IRA is still growing. You’re taking money from your IRA, but it’s still growing, because it’s growing more than the distribution amount. So then, the next year, the factor goes down, and the reason why the factor goes down is because your life expectancy is reduced. So, I said the first factor was 27.4. Where did that come from? What is that? Well, basically, that is what the IRS feels is the joint life expectancy of you and somebody deemed ten years younger. Now, it’s not technically correct, but to simplify, if they think that your life expectancy is, say, seventeen years, and then they give you this ten year bonus, it’s twenty-seven. That’s how they get it. So, the following year, the joint life expectancy of you and somebody that is deemed ten years younger is going to be reduced. So, in this case, 26.5. You divide that into the new balance, and you get your minimum required distribution for year two. Then, in year three, you continue that pattern.

So, let’s say, for discussion’s sake, that that pattern continues even for the rest of your life, and let’s say, for discussion’s sake, that maybe you die at eighty or ninety or whatever it is, but before you die, you’re continuing that minimum required distribution. Now, let’s say you’re married and you name your spouse as the beneficiary of your IRA or your retirement plan, and if you’re married, that’s probably a great starting point is to name your spouse as the beneficiary. Then, your spouse (and without getting into some of the more subtle exceptions), if they decide to keep the account (and we can talk about that a little bit later), your spouse will also have a minimum required distribution of the IRA. They will likely roll it into their IRA. If they are also older than seventy at your death, they will start their own minimum required distribution pattern using the joint life expectancy of your spouse at the time of your death and somebody deemed ten years younger than your spouse. All right, and then that pattern will continue.

Well, if you and your spouse are similar in age, then the factor isn’t going to change much. So, let’s say that you’re a similar age to your spouse, you’re going along, and before seventy, you don’t have any minimum required distributions, then after you turn seventy, the IRA owner does have minimum required distributions, that continues until they are deceased, and if the spouse is the primary beneficiary and if the spouse keeps that IRA, then what will happen is there will be a minimum required distribution of the, in effect, spousal IRA. Okay, and really, the calculation doesn’t change much, but we’re just substituting the spouse’s life expectancy for the original IRA owner. By the way, there are some exceptions to that, but that’s not the point of the show and that’s not where I want to take this.


3. The Multiple of 17

Jim Lange: So, here’s the real issue: what happens after you and your spouse die? Let’s assume, for discussion’s sake, that you’re leaving the money to your kids, or even grandkids, but it could be anybody other than your spouse. All right, so now, let’s say you and your spouse are gone, and we can go back to that million dollars in the IRA, and let’s assume, let’s keep it real simple, let’s say that you name your child, and let’s say your child is fifty years old at the time of your death, or your spouse’s death. All right, so now, there is a minimum required distribution, just like you had, just like your spouse had, but your non-spousal beneficiary, that is, your child or grandchild or friend or partner or anybody other than a spouse, must start taking the minimum required distribution of the inherited IRA the year after you die. All right, so let’s think about this for a minute. You’re gone, your spouse is gone, and usually, if you have multiple children, you’re typically naming multiple children equally, but just to keep it simple, let’s say that you have one child. The child’s fifty years old. The child then is required under the current law to take a minimum required distribution of the inherited IRA.

So, what will happen then is that child will be forced the year after you’re gone to take a certain amount out of the IRA, and remember, nobody’s paid income tax on this money, and they have to pay tax on it whether they like it or not. So, what they would do is, they would go to a different table, also found in Publication 590, I don’t know what it is offhand, but let’s just say, for discussion’s sake, it was thirty-three years. So, what they would do is, they would take three percent of the balance as of December 31st of the year that you died, and they would take that out. So, if we are using a million dollars, they would have to take out $30,000, and they would have to pay income taxes on it. Then, the next year, the factor would go down by one, and they would have to take a minimum required distribution of the inherited IRA. The following year, the factor keeps going down, which means the minimum required distribution of the inherited IRA keeps going up. And yes, it’s not cool to have to pay income tax on that $30,000, and, you know, it creeps up as time goes on, but the good news is, under existing law, they don’t have to have a big, huge tax bill on that million dollar inherited IRA, because if they had to pay income taxes on that entire IRA, and then, all of a sudden, they’re in the highest tax rate, and they might have a $400,000 tax. And then, after they’re done with that, where do they get the money to pay the tax? And then there’s a distribution from the IRA, and it’s one of those circular calculations. It’s a real mess. So, the good news is, under the existing law, they will not have a big hit in terms of tax liability.

Then, to add to the fun, let’s say that the beneficiary is a grandchild, or somebody who’s much younger. They will have a longer life expectancy, meaning a larger divisor, meaning a smaller minimum required distribution of the IRA, and that IRA can continue to be in existence literally for the life of the grandchild. Again, the ability for a non-spouse beneficiary of an IRA, or by the way, also a Roth IRA, to take minimum required distributions over time, that is called the ‘stretch IRA.’ The stretch IRA is the ability to defer income taxes after both spouses are gone, or perhaps (and I’m not going to go here) one spouse disclaims and the beneficiary then becomes the child, and then, by doing that, the child, who is typically, well, obviously much younger than the surviving spouse, will have a smaller minimum required distribution of the inherited IRA than if the spouse took it on their own. So, that’s called the stretch IRA. The way it works for the Roth IRA is the same thing, except with a Roth IRA, there’s no minimum required distribution for you during your lifetime. There’s no minimum required distribution for your spouse if you die and you leave your Roth IRA to your spouse. But then, if you leave it to your child or your grandchild, they have the same minimum required distribution schedule as the traditional inherited IRA, but the difference is, the minimum required distribution of the inherited Roth IRA is not taxable because, remember, you pay tax on the Roth. That’s the whole point. Pay taxes once and never again.

All right, so that’s the stretch Roth IRA, and what I love to do through a series of what we call ‘disclaimers,’ is we typically name the surviving spouse as the primary beneficiary, we name the children equally as the secondary beneficiaries, and then we name trusts for the grandchildren as the second contingent beneficiaries, and then we let the family decide who gets what, not now when we’re drafting the wills, but within nine months after mom or dad dies. So, we can have some very interesting strategic decisions. So, let’s say that dad dies with a million dollars and mom just needs the money, then there’s no discussion. Mom takes the million dollars. But let’s just say, for discussion’s sake, mom has a big pension, or for whatever reason, doesn’t need the million dollars of the IRA that she inherited from her husband, or she doesn’t need part of it. Well, under the existing law, she can disclaim that IRA or a portion of that IRA. Typically, assuming the beneficiary forms are filled out correctly in accordance with the way we like to fill it out, it would be typically to children equally. Next, the IRA would be divided into as many children as there are, and then each child would have the choice of what to do with their inherited IRA. They could keep it, or they could, in legal terms, ‘disclaim’ it. If they disclaimed it, and let’s assume (it sounds self-serving) our law firm had done the paperwork, it would go into a trust for their children. By the way, not their nieces and nephews and not their siblings. It would go into a trust for their children. That would be a qualifying trust to qualify as a designated beneficiary of an IRA, meaning that the grandchildren could stretch that IRA for their lifetimes, and they would actually potentially save hundreds of thousands of dollars, maybe even a million dollars, in income taxes by slowing down the rate of which the IRA is taken, because if the spouse takes it, she’s going to have to take it out much faster and pay a lot more taxes upfront than, let’s say, her grandchild would.

So, that’s basically the stretch IRA, and I know that we took a while to set up to talk about what the death of the stretch IRA is, but if you don’t have the basics down, then you’re probably not going to really appreciate how devastating the death of the stretch IRA can be.

Dan Weinberg: And we did have an e-mail question. This comes in from Rose, and she asks: “Is moving out of Pennsylvania to a state that does not have the fifteen percent inheritance tax the best way to avoid inheritance tax for my nieces and nephews, since I have no other relatives?” And then, she says, “Is there any chance that Pennsylvania will discontinue this inheritance tax as many other states have done?”

Jim Lange: Okay. Why don’t we take the easy part first, which is do I think that Pennsylvania will eliminate the PA inheritance tax? Now, by the way, it’s particularly brutal on nieces and nephews and non-lineal heirs. And by the way, quick recap: Pennsylvania has an unlimited marital deduction, which means you can leave as much money, or as little money, as you like to your spouse. Thank you, Governor Ridge, for that. It was not that way before Governor Ridge. If you leave the money to your lineal heirs, that is, your children or your grandchildren, there is a four-and-a-half percent tax, and if you leave your money to your nieces and nephews, as Rose is intending to do, there’s going to be a fifteen percent PA inheritance tax. Now, can Rose get out of that tax by moving somewhere that doesn’t have an inheritance tax?

Let’s say, for discussion’s sake, she can move to Florida. Could she get out of the PA inheritance tax by moving to Florida? Well, she absolutely would. And what would she get for that? She would get hot, humid, miserable summers. She would get unbelievable ants. She would get hurricane season. Now, by the way, I actually like Florida, but I like Florida in the winter, not in the summer. What do I really think? I think Rose should live where she wants. If she has the means to, let’s say, be a snowbird, and she wants to go back and forth, yes. If it’s close between whether she’s going to be there six months or, you know, six and a half months, it would be better to establish a Florida residency to avoid the PA inheritance tax. On the other hand, do I think that she should decide where she’s going to live just to avoid a fifteen percent PA inheritance tax for her nieces and nephews (I’m not representing her nieces and nephews, I’m representing her in this question), I would say live where you want to live. If you do go back and forth, and you are in a state that has a lower inheritance tax, it might behoove you to establish residency in that state. Rose is not here to answer the question “Did I answer your question, Rose?” But I think that that’s the general idea.

By the way, I’m actually really serious about this. It’s your money, Rose. You earned it. Is it smart to do estate planning? Sure. That’s exactly what we’re doing tonight. We’re trying to be smart about estate planning. On the other hand, are you going to radically change your life, as in to where you’re going to live because you want to leave a little bit more to your nieces and nephews? I wouldn’t do that.


4. Now that We know about the Stretch, What is the Death of the Stretch?

Jim Lange: Okay. So, back to the death of the stretch IRA. In the first section of the program, we talked about what the stretch IRA is. All right, so what is the death of the stretch IRA? What is the proposed legislation and what does it look like? Well, if you remember, I said that if you died and left the money to a non-spousal heir, the non-spousal heir, typically children or grandchildren, or, in Rose’s case, her nieces and nephews, can take a minimum required distribution of the inherited IRA and stretch it for their entire lives. The proposed legislation says that if you die with an IRA and you leave it to anybody but your spouse, and by the way, if you leave it to your spouse, even the proposed legislation doesn’t change anything. But if you don’t leave it to your spouse, then what would happen is that the beneficiary of the inherited IRA would not be able to stretch it out for their own lifetime, but subject to a limited number of exceptions, would have to take the money out and pay income tax on the entire thing within five years of your death. Now, this is pretty miserable, and if you’re sitting there with a million dollars in an IRA, and you just like gulped for air, that’s the 100% appropriate reaction because basically, Washington wants to steal a third, or maybe even 40%, of your IRA within five years of your death.

Now, let’s think about this. Let’s keep it simple. You have one child. You name the child. The child has to pay income tax on a million dollars within five years of your death. We can play around with tax rates and we can talk about which years they should take it, but in almost all variations, there’s going to be at least a $300,000 or $400,000 income tax hit on withdrawing a million dollars from the IRA. Then, after paying the income taxes on the IRA, the money that is left would be subject to income taxes on the earnings: the interest, the dividends and the realized capital gains. So, this really becomes a miserable situation, and in some circumstances, depending on, let’s say, some of the assumptions that you use, they leave a million dollars in an IRA, and the beneficiary has to pay tax on it within five years, given certain interest rates and spending rates, etc., when that beneficiary is, say, sixty-five years old, that IRA or inherited IRA could be exhausted. On the other hand, under the current law, that same IRA, assuming that they did the stretch right, could be worth a million dollars. So, this really could be…I mean, that’s huge, and that’s just in a twenty year period. That’s assuming your beneficiary’s forty-five at your death. So, this could be huge and really devastating to a family.

So, the good news is, it’s not law yet. So, the next question is, what are the odds of this being passed? Well, I think the odds of it being passed are really good, and it’s not just me. Ed Slott was on the radio show. He said the same thing. He just thinks it’s a matter of time. All the IRA experts that I talk to, if you look at the legislation, it is in, I think, virtually every budget that Obama has proposed, and here’s the other thing. This actually came to a vote in 2013, and in 2013, President Obama was for, that is, he voted for and wanted the, what I’ll call, the death of the stretch IRA. The Republican House voted for it, and you might say, “Well gee, why would a Republican House vote for it?” And it’s because, frankly, they wanted to lower income taxes, but they wanted to do it in a revenue neutral way, so they had to pick on somebody. I think they’re picking on the middle class, who work their you-know-whats off all their lives to accumulate an IRA, when the rules were after you die with your IRA, it goes to your kids, your kids get to stretch it, and then in the middle of the game, or towards the end of the game for you, they say, “No, we’re going to change the rules.” But anyway, that’s what I think they’re going to do. The Republican House wanted it. Obama wanted it. It was only the Democratic Senate that stopped it. All right, well now, we have a Republican Senate, we have a Republican House, we have a president who wants it. Is anything going to happen immediately, particularly with election season? Who knows? I don’t want to try to be a political expert. I would say probably not, but is this very likely to pass in the next couple years? I would say pretty sure thing yes, which means if you’re alive and you’re hearing this, unless you’re either very old or terminally ill, there’s a very good chance that this thing is going to change in your lifetime. This law is going to pass, so that your children will have to pay the income tax on the entire IRA, or inherited IRA, at your death, and that could really be devastating.

So, that’s the next question: well, how does the timing of this thing work? Well, let’s say that it comes up for a vote, let’s even say in 2016 or 2017, and they say the effective date is, let’s say, January 1st, 2018. Well, is there something that you can do to grandfather yourself? So, what if you have the account established? What if you establish beneficiary designations? What if you do something with that money? Well, the answer is the IRS doesn’t care. You will not be grandfathered. There’s only one way to be grandfathered, and it’s a pretty high price to grandfather your IRA. The way you can get grandfathered is you could die before the effective date, all right, which, obviously, isn’t too appealing. So, you can die before the effective date, or recognize the fact, “Gee, there’s a very good chance that before I die, they’re going to pass this law, and if I have a big IRA at my death and I leave it to a child or a grandchild or anybody other than a spouse, subject to limited exceptions, they’re going to have to pay income tax on the full amount in five years.” That’s what the death of the stretch IRA is. We think it’s coming, and I can’t believe that everybody isn’t running around in the streets screaming about it like I have. If you’re one of my clients, you probably got maybe five newsletters about this. I’ve talked about it probably every time I bring an IRA expert on the show. You know, we’ve talked about it with Bob Keebler, Ed Slott, Michael Jones, and a whole bunch of the IRA experts. So, we think it is coming.


5. How to Prepare for the Death of the Stretch

Jim Lange: All right, so, let’s say you say, “Okay, geez, it’s coming. Well, what the heck are we going to do about it? How can we get out of it?” All right? And the first thing I should mention is one of the answers, as my joint venture partner P.J. DiNuzzo likes to say, “We’re all snowflakes.” Meaning that there is no one answer that is going to be right for everybody. So, I’m going to give you one idea for an answer that, again, will not be right for everybody, but it will be very attractive to a number of people, and that is instead of naming your children, you could name a charitable trust. So let’s take the extreme case. Let’s go back to the example where you have a million dollars in your IRA, you have one child who’s going to be the beneficiary of your IRA, if you just do nothing and you die with your IRA after they pass the law, your child’s going to have to come up with, let’s say, $350,000 or $400,000 in tax, and it’s really going to be pretty devastating. What are some of your options? Well, one thing that you could do is you can name a charitable remainder unitrust as the beneficiary of your IRA. So, how’s that going to work? Well, you would select a trustee, and, to oversimplify, your child would get an income. It must be at least five percent of the inherited IRA, which would become a charitable remainder unitrust. Depending on how old the child is, the distribution could be significantly higher than five percent. That portion that the child would receive would be taxable. However, what is very cool about it is that unlike the entire inherited IRA of the million dollars being taxable within five years of the death of the IRA owner, the only tax that the beneficiary is paying is just the tax on the distribution. So, let’s again say that the inherited IRA is a million dollars, and let’s say that they’re taking a seven percent distribution, then they’re taking and only paying income tax on $70,000. Then, the next year, that would change, but I guess the point is that we have a fantastic tax deferral because we aren’t paying tax on the whole thing. But wait, when does the charity get the money? Subject to exception, the charity…and you can do terms, but let’s keep it simple, so under most circumstances, you would typically have the charity get the money when the child dies. So, you leave your million dollar IRA to, instead of your child, you leave it to this charitable remainder unitrust. The amount in the unitrust is not subject to taxes, other than the annual distributions to the child. Then, that pattern continues for the child’s lifetime. Then the child dies, and whatever is left in the account goes to the charity of either your choice or your child’s choice. Let’s assume it’s a legitimate 501(c)3 charity. So, even though your child doesn’t get to keep what is left, the fact that he has deferred income taxes on that entire million dollars speaks very well. The fact that he doesn’t get to have the principle obviously doesn’t speak so well.

So, what if we run the numbers, okay? We run the numbers and we say, “Okay, let’s compare two situations. We have one situation where we leave it to the child. We have another situation where we leave it to the charitable remainder unitrust.” And by the way, the distribution for the child is going to be calculated in such a way that the charity, depending on how long the child lives, is going to get ten percent of the present value of the IRA at your death. So, let’s assume that you die with a million dollar IRA. The charity should get, in today’s dollars, or the year that you die dollars, $100,000.00 as a distribution at the child’s death. Now, if the child lives a long time, the charity’s going to get less. If the child dies shortly, the charity’s going to get more. But the numbers that I have run show that the charitable remainder unitrust actually results with more money for the beneficiary. And by the way, one of my projects is actually doing charitable remainder unitrust analysis comparing the charitable remainder unitrust (CRUT) versus just leaving it to the child outright, and I actually proposed to a peer review journal, “Hey, I would like to write an article that examines this.” Now, we’ve already examined it, and, to be fair, the analysis that I am going to give you has not been peer reviewed. But anyway, to make a very long story short, you could have a difference of, let’s say even with a million dollars, you could have a difference of about $500,000.00. Let’s see, with the total distributions, there would be about $3.8 million to the child if you left it in a CRUT, but if you just left it to the child outright, it’d be about $3.3 million. I’m not going to go through all the assumptions because you’ll be bored to tears, but basically, the child would be better off by over $500,000, and as a bonus, the charity ends up with $179,000 at the child’s death. So, this becomes very attractive if you’re charitable, and even if you’re not charitable, it might be very attractive anyway.

All right, so what are some of the advantages and disadvantages? Well, the big advantage is that we don’t have to pay income tax in five years. That’s the really big advantage. The big disadvantage is that the child, rather than having the discretion to take distributions whenever they feel like it, even if they have to pay tax on it, they are limited to the percentage of the balance of the charitable remainder trust. The child does not have unlimited access like they would. Now, there are a couple factors. If you leave the money to your child outright, and your child has a creditor problem, the child is not protected. Maybe he’s a doctor and he gets sued. Maybe he drives his car and he runs over Ben Rothlisberger’s toe. Maybe he goes into business and he loses his shirt and he has to declare bankruptcy. If you leave your child an IRA directly, so it’s an inherited IRA to the child, that money is no longer protected from creditors. If, on the other hand, you leave your money to a charitable remainder unitrust, that money would be protected from creditors. So, your child could thumb his nose at his creditors and continue taking his distribution from the charitable remainder unitrust. And by the way, the CRUT, as I have described it, will work better for the children in certain circumstances if they change the law. So, would I go change your beneficiary form today to a CRUT? No, I wouldn’t because the existing law is even more favorable than the CRUT. But the CRUT is going to be more favorable than the law, assuming they pass the death of the stretch IRA.

Let’s do a couple of the negatives though. There is additional paperwork. By the way, attorneys love to draft trusts, but in the real world, the attorney drafts the trust, they sit in a safety deposit box for a long time, then somebody dies and then these trusts become a reality, and the CPA has to do the tax return, which, in the CRUT’s case, is somewhat complicated, somewhat expensive, and what you don’t want to do is have too much legal and accounting chasing too few dollars. So, Matt Schwartz, who is one of the estate attorneys in my office, he doesn’t like to do CRUTs if there’s going to be less than $250,000 per beneficiary, and his theory is, it’s just too much legal and accounting for not enough money. So, if you’re looking about what to do with your $100,000 IRA, it’s probably not viable to create a charitable remainder unitrust. The other thing is, once it’s created and once you die, that’s it. And then, of course, the other bad thing is, at least, well, if you’re not charitable, is at least ten percent of the present value has to go to the charity. On the other hand, your children can get creditor protection, they can have the money come out slowly over their lifetime, they can defer the tax, and in the long run, be $800,000 better off, and as a bonus, the charity gets $180,000. I think that that has to be a very interesting strategy that people should consider, and we’re actually now exploring something called a trust protector that would, in effect, determine, not your child, but the protector would determine whether the money goes to your child or whether it goes to this charitable remainder unitrust, that decision being made after your death. I can’t promise that that’s going to be a viable option. We’re looking at it. That would be consistent with my disclaimer strategies, although, technically, this would not be a disclaimer because the child would not be allowed to make that decision.

But anyway, very interesting stuff. I would be prepared to change your wills, and, more importantly, the beneficiary designations of your retirement plan if they do change this and start thinking about how it would look, and what your children would do, and also what the tax implications are.

Okay. So, we’ve gone over some of the differences, which, again, are very considerable. But what are some of the other things that you could do? Well, one of the things that you could do is, you can, what we would call, run the numbers, or most people have us run the numbers to determine if Roth IRA conversions are viable. Now, Roth IRA conversions, in one way, aren’t as good as they are under the traditional law because under the traditional or the existing law, you could stretch your Roth IRAs for the life of the child or the grandchild. On the other hand, it might be viable so they don’t have that big income tax hit. So, again, everybody’s a snowflake. We like to run numbers for your situation.

Then, I have a direct quote from Ed Slott, because Ed and I were corresponding. Usually, when I have a guest on, I actually read the guest’s book, and I develop questions, and I e-mail them the questions, and then Ed Slott sent me this e-mail back, and these are his words: “Eliminating the stretch IRA will wake people up to the planning they probably should have been doing all along. That means more IRA money will be withdrawn and leveraged to tax-free vehicles, like life insurance, that are better than stretch IRAs.” So, I think that we have to at least consider life insurance, and I have been a proponent of a particular type of policy called a ‘second-to-die’ life insurance policy, but this is only for people who can afford to make gifts to their children. In my book, and throughout my whole career, I’ve talked about three types of gifts. I’ve talked about the gifts of just giving money to your kids, the gifts of education with a 529 Plan, and the gifts of, what I would call, leverage gifts of a second-to-die life insurance policy. And I’m not going to have time to go through all the numbers, but this is what I would say: under the existing law, if you compare leaving money to a child, and then the child stretches the IRA, or you take a portion of that IRA every year, pay income taxes on it, you take what’s left, you buy a second-to-die life insurance policy, and again, I’m not going to have time to go through all the assumptions and the ages and everything else, but the numbers that I have in front of me, which, by the way, are consistent with the numbers that I have in my book, say the child will be better off with the life insurance. So if you want to read about it, you can get my book, and, you know, there’s that very nice offer now that you could get it for free. Anyway, your children, over their lifetime, will be over a million dollars better off if you get the life insurance. So, even under existing law, the life insurance is a very attractive alternative. It’s income tax free, PA inheritance tax free, and federal estate tax free, if you do it right. But if they pass the death of the stretch IRA, then the IRA, or the inherited IRA, isn’t worth anywhere near as much to your children. So, the numbers that I have here, and again, I’m not going to bore you with all the assumptions, which, again, can be found in my book, there’s a $1.7 million difference over the life of your children. Now, that is very, very substantial. So, one of the things that you might consider doing now is the life insurance if you like the idea of a second-to-die life insurance policy, and by the way, since I’m a cheapskate, I like very, very small premiums and I like great big death benefits. So, how do you get very small premiums and great big death benefits? Well, what you have to do is you have to wait until both husband and wife die, and the policy is typically never paid up. That’s different than the paid up cash value, or high cash value, type policies, and I’m not saying they don’t have their place. I’ll just say that they tend not to be my favorite. I prefer the low premium, high death benefit. By the way, for younger people, I like cheap term. A.L. Williams used to say, “Cheap term and invest the difference!” And I kind of agree with that, but for a second-to-die, it would be what’s called a ‘permanent policy,’ meaning it doesn’t lapse when you’re 87 or 90 or 92. It would just continue, preferably, for the rest of both of your lives, and when the policy matures, meaning when both you and your spouse die, the money in the face amount of the policy would go typically to the children, or maybe a trust for the children. But anyway, the numbers that I have here, using reasonable assumptions, is that by getting a million dollar policy, your children are $1.7 million better off. Now, my big thing is not to decide the amount based on the death benefit. I do it based on how much money you can afford. And the other thing is, that is something that you could do now. On the off chance that they don’t pass it, it’s still a good thing, and if they do pass it, it’ll be a great thing.

All right, and what we really like to do is, of course, we like to run the numbers and do a combination of strategies, maybe the Roth IRAs and Roth IRA conversions, maybe a second-to-die life insurance policy, maybe with the option of using a CRUT afterwards. Of course, we are also big fans of low-cost index funds, and, just as a refresher, that is what people come to us for, is the combination of all those strategies which our office does: the Roth IRAs, the Social Security, the index funds, etc. And then P.J. and DiNuzzo Index Investors, and if you’re an active investor of Fort Pitt Capital, actually do the investing themselves, and we charge a combined rate of one percent or less.

But anyway, the idea is, there are some very good things that you can do in the event that they do pass this law, both now and in the future, and let’s hope it doesn’t happen, but if it does, you’ll be prepared for the death of the stretch IRA.

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