Beneficiary Designations in a Second Marriage

Estate planning can be tricky to begin with — toss in a second spouse and children from different marriages and relationships and it becomes even more difficult.

Recently, Jim Lange came across an article in the Pittsburgh Post-Gazette that dealt with the estate planning challenges caused by divorce and remarriage.  The example that was used was that after 15 years of a second marriage, a husband was getting ready to retire with $1 million in his IRA.  His second wife was shocked to learn that she had no ownership rights to the account.

One of the proposed solutions listed in the article was a tool called a QTIP trust (qualified terminable interest property trust).  In this case, a QTIP trust would be listed as the beneficiary of the husband’s IRA and would then provide an income stream for the surviving spouse while protecting a portion of the assets for the children.

Jim thinks that this is the wrong approach and offered his solution in a letter to the editor.  Jim’s first point is that naming a QTIP trust as the beneficiary of an IRA accelerates income and taxes to the detriment of both the surviving spouse and the children.  The surviving spouse is left with only an income stream and the kids don’t inherit anything until the second spouse dies.  He’s also concerned about the fees generated by the QTIP trust solution — attorneys have to be paid to draft the trust and annual CPA and trustee fees have to be paid after the first death.

Instead, Jim prefers to leave a certain percentage of the IRA to the surviving spouse and give the rest to the children of prior marriages.  It’s a simple solution that provides more money for the heirs and less for the IRS.

Coincidentally, the topic of the June 3rd edition of our radio show, The Lange Money Hour, was trusts — so, we started the show with a discussion about the Post-Gazette article.  A special thank-you to a guest who agreed to join us on short notice — Tom Crowley, Senior Wealth Planner and VP at PNC Wealth Management.  While Tom agreed with Jim about the tax consequences of naming a QTIP trust as beneficiary of an IRA, he pointed out that in his practice, some clients are willing to sacrifice more money in taxes in order to gain greater control over the distribution of the funds.

During the rest of the show, Jim went on to explain the ins and outs of various trusts including living trusts, spendthrift trusts, charitable trusts and trusts for minors.  Keep in mind that every case needs to be evaluated on an individual basis.  If you have questions about any of these trusts or think that you need a thorough review, be sure to call the office at 412-521-2732 and a member of the Lange team can help.

Tax-Free Growth With Roth IRA Conversions

With another free Roth IRA workshop coming up at the end of March, we thought it would be a good time to review why Roth IRA’s are so important – and why they are about to be even more important for wealthy seniors.

Practically all boomers can enjoy tax-free growth by taking advantage of Roth IRAs, Roth 401(k)s, and Roth IRA conversions. This article focuses on Roth IRA conversions. Two types of boomers can benefit. First are boomers who currently have less than $100,000 of modified adjusted gross income (MAGI.) The second type is most everyone else.

If your MAGI is in excess of $100,000, you will have to wait until 2010 when wealthy Americans will be granted a unique opportunity. For the first time, you will qualify for a Roth IRA conversion regardless of your income. Previously, taxpayers with a modified adjusted gross income of $100,000 (or more) were not permitted to make a Roth IRA conversion. The compelling reason to pay attention is that individual IRA owners who have modified adjusted gross incomes of more than $100,000 can enjoy a huge windfall by taking advantage of this conversion opportunity.

The Roth IRA Changes in a Nutshell

For tax years after 2009, the Tax Reconciliation Act permits all taxpayers to make Roth IRA conversions, regardless of income level. If you make the Roth IRA conversion in 2010 you will be given the option to pay all the taxes on the conversion with your 2010 return, or with the returns for the two subsequent years by claiming the conversion income on the 2011 and 2012 returns.

What Happens When You Make a Roth IRA Conversion?

When you make a Roth IRA conversion, you pay income tax on the amount you choose to convert. While my standard advice “to pay taxes later” still represents my strongest recommendation for successful long-term planning, I have always made a “philosophical exception” for Roth IRAs. With respect to Roth IRA conversions, the better advice for many individuals is pay taxes now. While each case will benefit from an individualized analysis on the merits of the conversion, the critical feature of the Roth is that, once the initial taxes are paid on the conversion, income taxes will never be due on the growth, capital gains, dividends, interest, etc. This will be particularly advantageous to high-income taxpayers.

How Will the Roth IRA Benefit the Owner in His or Her Lifetime?

How much better off will you be during your lifetime? Assume you are in the top tax bracket of 35% (earning well over $100,000), you have $1,000,000 in your IRA, and you have the funds to pay the income tax on the Roth IRA conversion from money outside of the IRA. If we assess the advantage of the $1,000,000 conversion, measured in purchasing power, you would be $517,298 better off in 20 years. However, in today’s dollars, as adjusted for 3% annual inflation, this advantage is $286,416. In 30 years you are $725,616 ahead. See the graph below:

What are the benefits to the Roth IRA Owner’s Family?

For the very high income family, the long-term benefit of a Roth IRA conversion is potentially phenomenal. An estimate is that a taxpayer’s family could benefit by as much as twice the amount converted.

Please consider this scenario for the beneficiary. If you die 20 years after you make the conversion and you opt to leave the Roth IRA to your 45-year-old child, who spends it modestly, how much better off will your child be? See the graph below:

By age 85, he is $11,742,363 better off in actual dollars or $1,993,067 in today’s dollars, as adjusted for 3% inflation. This advantage is about twice the original amount converted. Clearly the potential advantages are significant, and for wealthy individuals, the legacy advantage of the Roth is difficult to beat.

For more information about our upcoming free Roth IRA workshop, check out the homepage at