PLANNING AND DRAFTING FOR RETIREMENT …...planning, our clients are still in need of planning for...

Planning and Drafting for Retirement Assets © 2010 Keebler & Associates, LLP

PLANNING AND DRAFTING FOR RETIREMENT ASSETS TO PROVIDE

MAXIMUM FLEXIBILITY AND OPPORTUNITY

Michelle L. Ward Keebler & Associates.com

[email protected]

Since the release of the final 401(a)(9) regulations in 2002, many questions remain as to how the IRS will interpret and administer these regulations. Perhaps no area has become more clouded with uncertainty than naming a trust as beneficiary. Regardless of the impact the final regulations have on distribution planning, our clients are still in need of planning for all of the non-tax reasons. While these materials focus on the taxation of distributions and opportunity for wealth preservation, the practitioner is nonetheless urged to not let the tax ―tail‖ wag the estate planning ―dog.‖

I. Introduction

A. Need for Flexibility – Context For Planning

1. Estate Tax Changes

a. Applicable Exclusion Amount Changes and Rate Changes.

b. Coordination with Marital Deduction and Credit Shelter Trust funding to prevent over or under funding.

2. Changes in Client Asset Value. Investment volatility confirms the need for beneficiary designations to ―adjust‖ to then current values. Asset values may fluctuate substantially between the completion of an estate plan and death of a client.

3. Coordination with Overall Non-Tax Estate Planning Objectives in Addition to Tax Planning Objectives. In many instances, where minor beneficiaries, such as children or grandchildren are involved (or may be involved), assets payable to such minors are typically held in trust until the minor reaches a particular age. As a result, a beneficiary designation naming ―children, per stirpes‖ may unintentionally result in Retirement Assets payable to a grandchild prior to the perceived appropriate time. Similarly, Retirement Assets may be payable to a child or grandchild with special needs or be used to satisfy a charitable bequest. In any of these circumstances, it will be critical that the various tax and non-tax objectives be coordinated.


a. Example: Typically, one’s Will or Revocable Trust will provide that when a beneficiary who is entitled to an asset is younger than a particular age (e.g. 30), such assets are held in trust for such beneficiary until he or she reaches a particular age. In this instance, expenditures may be made for the beneficiary, however, this decision is made by the Trustee rather than the beneficiary.

4. Spousal Need. In addition to providing for the above uncertainties and potential issues, a major issue facing a surviving spouse is the continued need to maintain a particular lifestyle or perceived need. Again, circumstances will change in the lapse of time between the completion of a beneficiary designation, death of the owner and the death of the surviving spouse.

5. Tax Apportionment. Another area where coordination is necessary is the tax apportionment provision, recognizing that Retirement Assets are paid outside of the probate estate (unless made payable to the estate). As such, and depending upon the tax allocation provisions, the beneficiaries of such Retirement Assets may escape their ―equitable share‖ of estate tax.

6. Beneficiary Action. A difficult issue to predict is how quickly a beneficiary may liquidate the Retirement Asset. In this regard, a beneficiary may appreciate the benefit of an inherited IRA while others may still immediately liquidate the balance.

B. Final Regulations Under IRC § 401(A)(9).

1. Lifetime Required Minimum Distributions (―RMDs‖). The Final Regulations make determining lifetime RMDs quite simple. Almost everyone now determines RMDs by reference to the Uniform Lifetime Table found under Prop. Treas. Reg. § 1.401(a)(9)-9. The only exception to this general rule is where the Owner names a spouse as ―sole beneficiary‖1 and such spouse is more than 10-years younger than the owner. In this case, the joint life expectancy is calculated on an annual basis under the Joint and Last Survivor Table found under Treas. Reg. § 1.401(a)(9)-9.

2. Significance of the Required Beginning Date (RBD). No longer is there a requirement that certain irrevocable elections be made by one’s RBD. Rather, one is only required to begin distributions by this date. Generally, one’s RBD is the April 1 of the year following

1 The determination of ―spouse‖ is made as of January 1

st of each year. Treas. Reg. § 1.401(a)(9)-

5, A-4(b)(2). Death or divorce during the year will not affect the RMD until the subsequent year. Further, in order to qualify to use the Joint Table, such spouse must remain sole beneficiary throughout the entire year. Treas. Reg. § 1.401(a)(9)-5, A-4(b)(1).


the year in which an IRA owner reaches age 70 ½. IRC § 401(a)(9)(C).

3. Post-Death RMDs.2 After the death of the Owner, post-death RMDs are calculated based upon the life expectancy of the ―Designated Beneficiary.‖ Only individuals (those with ascertainable life expectancies) can be Designated Beneficiaries. Once the Designated Beneficiary is ascertained, RMDs are determined based upon the December 31 prior year balance and the Designated Beneficiary’s life expectancy factor determined by the Designated Beneficiary’s attained age for the first year of distribution by reference to the Single Life Table under Treas. Reg. § 1.401(a)(9)-9.

For each succeeding year, this factor is reduced by one. Post-death RMDs must begin no later than December 31 of the year following the year of death.

a. Example: Beneficiary turns age 45 in 2010, which is the first year in which an RMD must take place. Referring to Single Life Table, the life expectancy factor is 38.8. In 2011, the life expectancy factor is 37.8.

4. September 30th of the Year Following the Year of Death to ―Perfect‖ the Beneficiary. Perhaps the most beneficial rule of the regulations is the ability to finalize a beneficiary no later than September 30 of the year following the year of death. Treas. Reg. § 1.401(a)(9)-4, A-4. The ability to change a beneficiary can be done through a qualified disclaimer. A key element in planning will be to envision the possibility of a disclaimer and embrace the potential for post-mortem planning.3 The key planning aspect to this opportunity is to make sure a series of beneficiaries are named. Beneficiaries cannot be added but can be removed.

Example: Same facts as in Example 1, except that Wife has significant other assets where an estate tax will result. Now assume that Husband dies having named spouse as primary beneficiary and children as contingent beneficiaries. In this case, in order to

2 Where death occurs after the RBD and the Owner has not taken his RMD for the year,

distribution of the RMD must occur for the year of death. 3 Another issue that the IRS has answered in favor of the taxpayer is whether the ability to disclaim

violates the prohibition against any person having the discretion to change the beneficiaries of the employee. See Prop. Treas. Reg. § 1.401(a)(9)-5, A-7(d).

Prior December 31st Balance

Life Expectancy Factor RMD =


minimize overall estate tax, wife will disclaim a portion of the IRA allowing it to pass to the children, thereby making use of Husband’s unified credit.

5. Opportunity to ―Payout‖ Certain Beneficiaries. As a Designated Beneficiary can be perfected by September 30 of the year following the year of death, it is possible to eliminate non-individual or individual beneficiaries through cash out.

Example: Assume that an IRA is payable 50% to charity and 50% to children, per stirpes. If the interest payable to charity is paid out prior to September 30th of the year following the year of death, the charity need not be taken into consideration in determining whether a designated beneficiary exists.4

6. Opportunity to Create Separate Shares. Where multiple beneficiaries exist, segregating the account into separate accounts for the benefit of each beneficiary will allow each beneficiary to utilize his or her own life expectancy to calculate RMDs. This separate share rule is also useful where a non-individual beneficiary exists that is not immediately ―cashed out.‖ See below for a further discussion of creating separate shares.

C. Inherited IRA. The inherited IRA envisions allowing each beneficiary the ability to receive RMDs over his or her life expectancy. The ability to leave the IRA in a tax deferred environment creates the opportunity for a significant amount of wealth to be generated without being subject to taxation on an annual basis.

D. Bottom Line: planning must be flexible enough to anticipate unforeseen events, yet still provide the greatest opportunity for wealth accumulation through tax deferral.

II. Beneficiary Designation Planning

A. The Case for a Customized Beneficiary Designation. As Retirement Assets are distributed based upon contractual beneficiary designations, special attention must be paid to coordinating the beneficiary designation planning with the overall estate plan. The typical beneficiary designation is often completed with little concern or attention to the income tax considerations, estate tax considerations, the opportunity for the Retirement Asset to remain intact for decades, or the other tax and non-tax related objectives of a client. In contrast, a client will typically have elaborate and quite justifiable estate planning documents drafted anticipating several scenarios to best protect his or her family. For these same tax and non-tax reasons, strong consideration should be given to

4 In this case, the opportunity for separate shares exists. However, if the shares are not segregated

by September 30th, the non-qualifying beneficiary may infect the entire designation.


creating a customized and flexible beneficiary designation for a particular client.

B. Review of the Plan Document/Custodial Agreement. A key element to planning is to understand what is possible and what is not possible under a particular Plan. In this regard, it is necessary to review the Plan Document/Custodial Agreement to determine the operation of the Plan and most significantly how distributions occur.

Example: Many qualified plans require that all distributions to non-spousal beneficiaries be made over a five year (or shorter) period.

C. Spousal Rollover/Election Planning

1. Applicability and Opportunity. To help ensure that the surviving spouse has sufficient assets, many Retirement Asset owners would like to name their spouse as primary beneficiary. Beyond the obvious objective of providing for the surviving spouse, naming a spouse as beneficiary continues to allow the opportunity for the Inherited IRA to be achieved. Additionally, where the spouse is named as ―sole‖ beneficiary, he or she may defer the start of RMDs until the year in which the deceased Owner would have reached age 70½. Treas. Reg. 1.401(a)(9)-3, A-3(b). This is a significant planning opportunity (see Spousal Rollover Trap below).

2. Authority. In the context of an IRA, the authority for a spousal rollover is found in IRC § 408(d)(3)(C)(ii) as an exception to the general rule that distributions from an IRA are required to be included in income. Similarly, spousal rollovers are permitted from qualified plans. IRC § 402(c)(9).

3. An important technical distinction must be drawn between a ―rollover‖ and an ―election‖ to treat the IRA as the surviving spouse’s own. Generally, a spouse can perform a rollover and (1) maintain the IRA as an inherited IRA, or (2) elect to treat the IRA as his or her own.

4. How to Do It. The Regulations provide for three ways for a spouse to elect to treat the IRA as his or her own:

a. Change the title of the account to the surviving spouse’s name. Treas. Reg. § 1.408-8, A-5(b).

b. The surviving spouse makes contributions to the account. Treas. Reg. § 1.408-8, A-5(b)(2).

c. The surviving spouse fails to withdraw RMDs as an inherited IRA. Treas. Reg. § Prop Treas. Reg. § 1.408-8, A-5(b)(1).


5. When It can be Done. The election to treat the Retirement Asset as the surviving spouse’s own may occur at any time.5 As such, there is no time limitation or prohibition on withdrawals prior to an election to treat the Retirement Asset as the surviving spouse’s own.

6. Spousal Rollover/Election Trap. In the case where a surviving spouse is younger than 59½ and has a need to access Retirement Assets of a deceased spouse, performing a spousal rollover/election will preclude the surviving spouse from accessing the account without incurring a 10% penalty for early distributions.6 IRC § 72(t). However, if the surviving spouse were to leave the Retirement Asset in the name of the deceased spouse (as an ―inherited IRA‖), the survivor may take distributions based upon the ―on account of death‖ exception to IRC § 72(t)(2)(b). Prior to the 2001 proposed regulations, some uncertainty existed with respect to whether a surviving spouse who is receiving distributions as an ―inherited IRA‖ is thereafter precluded from performing a rollover. In PLR 200110033 the Service concluded that a spouse does not make an irrevocable election to receive the Retirement Asset as an inherited Retirement Asset where he or she receives distributions.7 This provides a significant planning opportunity for a young widow. Despite this opportunity, in order to ensure the availability of the Inherited IRA Concept and to protect the opportunity for an Inherited IRA, it is imperative that the surviving spouse consider a rollover at the earlier of the year in which the:

(1) Owner would have been age 70½ or

(2) Surviving spouse turns age 59½.8

7. Rollover from Qualified Plan to IRA and the opportunity for spousal Inherited IRA status. Treas. Reg. § 1.408-8, A-7.

5 See PLR 20011033 and Treas. Reg. § 1.408-8, A-5(a).

6 Of course, it is always possible for the surviving spouse to perform a rollover and begin a series

of substantially equal periodic payments. IRC § 72(t). However, this will effectively ―lock‖ the surviving spouse into a distribution pattern for the longer of five years or until he or she reaches age 59½.

7 It should be noted that PLRs are only binding on the Service with respect to the taxpayer who

requested the ruling. As such, PLRs cannot be cited as precedent. Despite this, PLRs do offer guidance as to how the IRS would likely rule on an issue.

8 A surviving spouse who receives Retirement Assets as an inherited IRA may name a beneficiary

to receive the remaining IRA benefit upon the surviving spouse’s death based upon such beneficiary’s life expectancy. However, this opportunity is available only during the years of deferral prior to the year in which the owner, had he or she lived, would have reached age 70½. Treas. Reg. § 1.401(a)(9)-3, A-5. Failure to perform a rollover prior to this point will require distributions to the successor beneficiary to take place over the remaining life expectancy of the surviving spouse. Id. In addition, once the surviving spouse reaches age 59½, there is no reason to leave the IRA as an inherited IRA, as the spouse may now take distributions without regard to the 10-percent penalty.


a. Example: Bill Jones dies at age 54, leaving his 401(k) plan to his wife, Betty. Betty, age 52, is concerned that she may need to access the 401(k) plan proceeds prior to her reaching age 59½. She could leave the plan with the company, with limited investment and distribution options, or perform a rollover. Pursuant to Treas. Reg. § 1.408-8, A-7, Betty could perform a rollover, leaving the money in the name of her husband, as an inherited IRA, thereby allowing her to receive distributions without the imposition of the 10% penalty. She is not required to receive RMDs until such time as Bill would have been age 70 ½. Further, Betty can perform a rollover at anytime and would likely do so upon reaching age 59 ½.

Spousal Rollover through Trust or Estate. The Preamble to the final regulations states ―If the spouse actually receives a distribution from the IRA, the spouse is permitted to roll that distribution over within 60 days into an IRA in the spouse’s own name to the extent that the distribution is not a required distribution, regardless of whether or not the spouse is the sole beneficiary of the IRA owner.‖ Historically, numerous PLRs have permitted a surviving spouse to perform a rollover despite the fact that the Retirement Assets were made payable to the estate or a probate avoidance revocable trust. See PLRs 200720024, 200707159 and 200703047. Based upon these various PLRs, it appears that the key element is that the spouse, as Trustee and/or Personal Representative and/or Executor and/or Beneficiary, has the unilateral ability at all times to control the disposition of Retirement Assets to himself or herself. This rule was enunciated quite clearly in PLR 200128056, where a rollover was permitted through a power of appointment marital deduction trust only to the extent the third party trustee had no discretion to allocate the IRA to other trusts due to the funding requirements. Spousal beneficiaries (and their advisors) have been very creative in their attempt to obtain a rollover. Typically, this has been done through a series of disclaimers to allow the spouse to be the sole beneficiary who has unilateral control over the disposition. PLRs 9710034 and 9820010.

D. Disclaimer Planning

1. Given the opportunity to perfect a designated beneficiary as of September 30th of the year following the year of death, as well as proactively anticipating potential spousal need and estate tax, disclaimer based planning will often be the mechanism of choice. Thus, it is critical that the planner have a grasp of the requirements of a qualified disclaimer and potential pitfalls. This is especially true where Retirement Asset planning is layered upon an existing estate plan.


2. A qualified disclaimer is an exception to the general rule that the transfer of property is subject to a transfer tax. Where a qualified disclaimer occurs, the disclaimant is treated as if he or she died prior to the creation of the interest. IRC § 2518(a). In the case of Retirement Assets, a qualified disclaimer will allow for the interest to both pass to a contingent or secondary beneficiary and also for such contingent or secondary beneficiary’s measuring life to be used to calculate RMDs.

3. IRC §2518(b) outlines the requirements for a qualified disclaimer. A qualified disclaimer means an irrevocable and unqualified refusal by a person to accept an interest in property but only if:

(1) such refusal is in writing,

(2) such writing is received by the transferor of the interest, his legal representative, or the holder of the legal title to the property to which the interest relates not later than the date which is 9 months after the later of--

(A) the day on which the transfer creating the interest in such person is made, or

(B) the day on which such person attains age 21,

(3) such person has not accepted the interest or any of its benefits, and

(4) as a result of such refusal, the interest passes without any direction on the part of the person making the disclaimer and passes either—

(A) to the spouse of the decedent, or

(B) to a person other than the person making the disclaimer.

4. A non-qualified disclaimer will result in gift and potentially GST tax consequences, as the disclaimant is deemed to have received the assets and subsequently made a gift to the succeeding beneficiary.

5. In the context of Retirement Assets, if a primary beneficiary disclaims, such Retirement Assets will pass to the named contingent or secondary beneficiary. If no contingent or secondary beneficiary is named, disclaimed assets will pass according to the plan document (custodial agreement). Typically, custodial agreements will make the IRA payable to an estate, which of course is not a designated beneficiary. Therefore, it is important to include contingent beneficiaries in the beneficiary designation. Special attention should be paid to default provisions of the


custodial agreement as to where assets pass in the event of a disclaimer (i.e., remaining primary beneficiaries or issue of the disclaimant).

6. Note that final regulations under IRC § 401(a)(9) require that the disclaimer is a qualified disclaimer.9

7. No Acceptance Rule. In the context of planning for Retirement Assets, recall that where the Owner dies after reaching his or her required beginning date, the RMD for the year of death must be made (or have been made) to either the participant, or the designated beneficiary. Treas. Reg. § 1.401(a)(9)-5, A-4. In Revenue Ruling 2005-36, the beneficiary's disclaimer of beneficial interest in the decedent's IRA was ruled a qualified disclaimer under Code Sec. 2518 even though prior to making disclaimer, the beneficiary received the RMD for the year of the decedent's death. The ruling held that the beneficiary may make a qualified disclaimer with respect to all or a portion of the balance of the IRA, other than the income attributable to the RMD that the beneficiary received, provided that at the time the disclaimer is made, the disclaimed amount and the income attributable to the disclaimed amount are paid to the beneficiary entitled to receive the disclaimed amount, or are segregated in a separate account.

Example: Keith's spouse, Lydia, is designated as the sole beneficiary of the IRA after Keith's death. Nick, the child of Keith and Lydia, is designated as the beneficiary in the event Spouse predeceases Keith. Three months after Keith's death, the IRA custodian pays Lydia $100, the RMD for 2010. No other amounts have been paid from the IRA since Keith's date of death. Seven months after Keith's death, Lydia executes a written instrument pursuant to which Lydia disclaims the pecuniary amount of $600 of the IRA account balance plus the income attributable to the $600 amount earned after the date of death. The income earned by the IRA between the date of Keith's death and the date of Lydia's disclaimer is $40. The disclaimer is valid and effective under applicable state law. Under applicable state law, as a result of the disclaimer, Lydia is treated as predeceasing Keith with respect to the disclaimed property. As soon as the disclaimer is made, in accordance with the IRA beneficiary designation, Nick, as successor beneficiary is paid the $600 amount disclaimed, plus that portion of IRA income earned between the date of death and the date of the disclaimer attributable to the $600 amount ($12). Under Revenue Ruling 2005-36, Lydia has made a qualified disclaimer of the $600 pecuniary amount, plus $12.

9 Treas. Reg. § 1.401(a)(9)-4, A-4(a).


Further, certain actions taken as a fiduciary will not constitute acceptance, provided such actions are taken to preserve or maintain the disclaimed property. Treas. Reg. § 25.2518-2(d)(2). However a putative disclaimant who is also serving as fiduciary may still have problems qualifying the disclaimer; see below regarding the No Direction Rule.

8. No Interest Rule – Non-Spousal Beneficiary. A non-spousal beneficiary can have ―no interest‖ in assets he or she disclaimed. For example, if a child is named primary beneficiary and a trust for the benefit of such child and his children is named contingent beneficiary, a disclaimer by the child would not be qualified unless such child also disclaimed his interest in the trust. This rule extends to contingent interests and interests arising under the laws of intestacy. Treas. Reg. § 25.2518-2(e)(3)(ii). In order to avoid this issue, the disclaimer should be drafted to contemplate any reversionary interest.

9. No Interest Rule – Spousal Beneficiary. Unlike a non-spousal beneficiary, a spouse may disclaim assets that may pass to a trust, which the spouse is a beneficiary of such trust. This is a commonplace practice whereby the spouse disclaims assets to a credit shelter trust for benefit of both the disclaimant spouse and children. Treas. Reg. § 25.2518-2(e)(2).

10. No Direction Rule. Unlike the ―no interest‖ rule, a special exception for a disclaimant spouse does not exist for the ―no direction‖ rule. In this regard, the no direction rule is violated where the disclaimant holds a limited power of appointment over disclaimed assets. Treas. Reg. § 25.2518-2(e)(1) and (2).10 Consider where a surviving spouse disclaims an IRA allowing it to pass to the credit shelter trust. The surviving spouse may have an interest in the trust. However, such spouse may not have a power of appointment. In addition to limited powers of appointment, care must be taken where disclaimed assets pass to a trust over which the disclaimant is trustee. Where this is the case, if the distribution standards governing the trustee are not mandatory or subject to an ascertainable standard, the disclaimant will have retained ―direction‖ and thereby disqualify the disclaimer. Treas. Reg. § 25.2518-2(e)(5), Examples (4), (5), and (6).

11. Sample Trust Provision Prohibiting a Spouse from exercising a non-ascertainable Power of Appointment over Property Disclaimed by such spouse:

10

Under the regulations, it appears that a disclaimant spouse may retain a limited power of appointment provided such appointment is subject to an ascertainable standard. See Treas. Reg. § 25.2518-2(e)(2), Example (5). The author has never seen such a power and has difficulty imagining how such a power would be structured.


Notwithstanding any other provision of this Agreement (including, but not without limitation, any power specifically conferred upon a Trustee hereunder), no individual or Trustee with respect to which such individual or Trustee has made a qualified disclaimer within the meaning of Section 2518 of the Code shall exercise any power of appointment or discretion beyond the scope of an ascertainable standard as described in Sections 2041 and 2514 of the Code with respect to such disclaimed property.

12. Pecuniary versus Fractional Disclaimers. Where disclaiming less than an entire interest, it is an open question whether a pecuniary disclaimer of Retirement Assets would require the immediate recognition of income under IRC § 691(a).11 PLRs 9847026, 9835005 and 9623064 involved the use of pecuniary disclaimers where the Service never raised this issue. Revenue Ruling 2005-36 also gave an example of a pecuniary disclaimer, but did not address the recognition of income issue. Despite this uncertainty, the safest course of action continues to be the use of a fractional formula disclaimer.

E. Planning for Separate Shares

1. Significance. Where multiple beneficiaries exist and such beneficiary’s interests are severable, it may be possible to divide the account into ―separate accounts‖ payable to the different beneficiaries.12 Treas. Reg. § 1.401(a)(9)-8, A-3.

The regulations provide that separate shares must be established no later than December 31st of the year following the year of death for purposes of determining the applicable distribution period. Treas. Reg. § 1.401(a)(9)-8, A-2(a)(2). However, recall that the determination of whether a designated beneficiary exists, as well as whom the designated beneficiaries are is determine by September 30th of the year following the year of death. Therefore, the treatment of separate shares that are established after September 30th yet before December 31st is unclear in relation to the applicable life expectancy factor determination.

The significance of separate shares is two-fold: (1) each separate share will allow the share beneficiary to calculate RMDs based upon his or her own life expectancy; and (2) where multiple beneficiaries exist, one of which is not a qualified beneficiary,

11

Arguably, the taxation of qualified plans and IRAs is to occur on the basis of IRC § 401 et. seq., thus, the application of IRC § 691 would be superseded.

12 A distinction should be drawn between ―sub-accounts‖ and separate shares. With ―sub-accounts,‖

an account is held, managed and invested for a particular beneficiary. However, RMDs of each sub-account are calculated based upon the oldest life expectancy of all sub-account beneficiaries.


separate shares will allow for life expectancy distributions for the qualified segregated shares.

2. Creation of Separate Shares. In order to create separate shares, the beneficiary designation will direct the benefit to be payable to multiple beneficiaries. In order to create separate shares for such beneficiaries, separate accounts must be set up for the beneficiaries.13 The initial allocation of assets and expenses must occur on a pro-rata basis and each beneficiary must have access only to his or her segregated interest. Treas. Reg. § 1.401(a)(9)-8, A-2 and A-3.

a. PLRs 200208028, 200208029, 200208030 and 200203033 illustrate a situation where the beneficiaries were receiving distributions based upon the oldest beneficiary’s life expectancy despite the fact that the beneficiary designation created separate shares. Upon receiving the PLR, each child beneficiary was allowed to use his or her life expectancy.

3. Creation of Separate Shares in Trusts. In the context of naming a trust as designated beneficiary, the regulations are clear that the shares are to be created under the plan or beneficiary designation rather than merely in the trust. Treas. Reg. § 1.401(a)(9)-4, A-5(c). See PLRs 200317041, 200317043 and 200317044 in which the taxpayers were forced to take RMDs over the life expectancy of the oldest trust beneficiary. In PLR 200537044, however, the IRS allowed each individual beneficiary of each trust share to use his/her individual life expectancy to calculate the RMDs for his/her share of the IRA. Upon the death of the trustor, the ―IRA Trust‖ created separate sub-trusts for each beneficiary. Each separate sub-trust that was created under the ―master trust‖ instrument was named beneficiary of the IRA. Subsequent to the IRA owner’s death, the IRA was divided into separates IRAs for each of the named sub-trust beneficiaries. What differentiates PLR 200537044 from PLRs 200317041, 200317043 and 200317044 is that the IRA owner in this PLR expressly named each separate sub-trust as a beneficiary of his IRA, each with a differing percentage interest. In PLRs 200317041, 200317043 and 200317044, the taxpayer named the ―master trust‖ as beneficiary of the IRA, with direction that it then be divided into equal shares and payable to the separate sub-trusts. The beneficiary designation form in PLR 200537044 names the separate sub-trusts directly. The IRA does not pass through the ―master trust‖ and is then divided. Instead, the IRA is divided at the beneficiary designation level and payable to the separate sub-trusts

13

It is critical that the beneficiary maintains the Retirement Asset in the name of the decedent and does not unwittingly cause the entire benefit to be immediately subject to income tax. In this regard the beneficiary should maintain title to the IRA in the name of the decedent, held for the benefit of the beneficiary. Sample language is ―John Smith, Deceased IRA held f/b/o Jane Smith.‖


that were created at the IRA owner’s death. This situation is analogous to an individual naming two completely independently executed trusts as equal beneficiaries of an IRA.

PLR 200537044 provides much needed guidance on how beneficiary designation forms need to be structured to obtain separate share treatment. Instead of simply naming the ―master trust‖ as beneficiary of the IRA with directions to separate the trust and the IRA into separate shares, each separate sub-trust should be specifically named as partial beneficiary in the beneficiary designation form. This will allow each trust beneficiary to use his or her individual life expectancy as opposed to using the life expectancy of the oldest primary beneficiary to calculate required minimum distributions.

F. Coordination with other Estate Planning Documents

1. Formula Provisions for Estate and GST issues. In some instances, such as where Retirement Assets are the only assets with which to make use of the applicable credit amount, use of a formula may be preferable than relying on the surviving spouse to disclaim. In this instance, consideration should be given to including a funding formula in the Beneficiary Designation rather than making the Retirement Assets payable to a trust wherein the trust provides for division (see Spousal Rollover Planning above).

a. Pecuniary Versus Fractional. It is an open question whether the pecuniary funding of a bequest of Retirement Assets would require immediate recognition of income under IRC § 691(a). PLRs 9847026, 9835005 and 9623064 involved pecuniary funding however, the IRS did not address this issue.

b. Coordination with Will and Revocable Trust. An important issue in structuring the formula is to ensure proper coordination with the revocable trust to ensure that over funding does not occur.

2. Payment of Estate Tax. A key element to ensure tax deferral and to avoid a negative tax spiral of estate and income tax from withdrawal of Retirement Assets to pay estate tax is to plan for payment of estate tax from other sources. In this regard, creation of an ILIT can provide a source of assets to allow beneficiaries to leave the Retirement Assets intact. PLR 200027016 provides guidance for how beneficiaries protect an inherited IRA where there are insufficient assets in an estate for payment, but the beneficiaries have sufficient funds. In this PLR, the IRA


beneficiaries satisfied the estate tax liability with outside funds, leaving the IRA intact.

3. Presumption of Death Provisions. Again, coordination with one’s will and revocable trust will require that a presumption of death provision in a beneficiary designation work in conjunction with remaining estate planning documents.

G. Documenting the Beneficiary Designation with the Plan Administrator/IRA Custodian. A custodian may have particular signature requirements such as a notary seal or require a signature guarantee. Additionally, the custodian may require exemplary language be included relieving the custodian from any liability or duty attributable to the customized beneficiary form. When preparing a customized beneficiary designation, seek approval for the form by requiring the signature of the custodian on the form itself.

H. Ability of Beneficiary to Transfer Assets to New Custodian. An important element to beneficial ownership of an investment asset is the ability to control investment direction and implicitly the choice of custodian. As such, an important feature is the ability for a beneficiary to not only change investment direction, but additionally, the ability to transfer the account to a new custodian.14

I. Ability to Name Successor Beneficiary where Primary Beneficiary Dies Prior to Full Distribution. Where a beneficiary dies prior to full distribution, a question exists as to where the unpaid proceeds of the account are to be distributed. Recall that once a determination is made as to how rapidly distributions from the Retirement Asset must occur, subsequent beneficiaries have no effect on this distribution schedule. Thus, a successor beneficiary may continue to receive payments over the initial life expectancy. Further, once the Retirement Asset is payable, the beneficial owner may determine who the successor beneficiary should be, provided that the Plan or Custodial Agreement allows. In the absence of such direction, a beneficiary designation can create a default disposition.15

III. Qualifying a Trust as ―Designated Beneficiary‖

A. Qualifying a Trust to Achieve ―Designated Beneficiary‖ Status Under the Final Regulations. Where certain requirements are met, it is possible to achieve Designated Beneficiary status when naming a trust as designated beneficiary. Note however that the trust itself in not a ―Designated Beneficiary.‖ Rather, one is able to look through the trust to the individual

14

Still in the name of the deceased for the benefit of the beneficiary. 15

It is important to note that the default successor beneficiary may include an estate of the primary beneficiary where the Retirement Asset is paid outright to such individual. In this case, the estate’s right to receive is based upon the contingency of the primary beneficiary’s death and thus has no impact on qualification as a designated beneficiary.


beneficiaries who are then treated as having been designated. The failure of a trust to achieve Designated Beneficiary status will require post-death distributions over the Owner’s life expectancy (if the owner dies on or after his or her RBD)16 or under the five year rule (if the owner dies prior to his or her RBD).17

1. The test that must be satisfied in order to allow for ―Designated Beneficiary‖ status when a trust is named is found under Treas. Reg. § 1.401(a)(9)-4, A-5(b). The test has four requirements:

a) The trust is valid under state law, or would be but for the fact that there is no corpus.

b) The trust is irrevocable or will, by its terms, become irrevocable upon the death of the employee.

c) The beneficiaries of the trust who are beneficiaries with respect to the trust’s interest in the employee’s benefit are identifiable from the trust instrument within the meaning of A-1 of this section.

d) The documentation described in A-6 of this section has been provided to the plan administrator.

B. First Element: Trust Must Be Valid Under State Law. Generally, this element of the test is relatively easy to meet. While a question existed under the 1987 proposed regulations as to whether testamentary trusts would qualify under this standard, the 2001 proposed and ultimately, the final regulations make it clear that a testamentary trust will satisfy this first element. Treas. Reg. § 1.401(a)(9)-5, A-7, Example 1.

C. Second Element: Irrevocable upon Death. The second element is also relatively easy to meet. Generally, a testamentary trust or probate avoidance revocable trust will become irrevocable upon the death of the Owner. However, in some instances, this element may be cause for problems. For example, a Revocable Trust may be created to be the recipient of Retirement Assets of both spouses. In order to satisfy this test, the trust would have to become irrevocable upon the death of the first spouse.

D. Third Element: Beneficiaries Identifiable from Trust Instrument. The objective in this element is to ascertain the ―countable‖ trust beneficiary with the shortest life expectancy (i.e., the oldest beneficiary). Further, all such countable beneficiaries must be individual beneficiaries. As will be discussed, this third element often is the most difficult issue to address when naming a trust.

16

Treas. Reg. § 1.401(a)(9)-5, A-5(c)(3). 17

Treas. Reg. § 1.401(a)(9)-3, A-1.


E. Fourth Element: Documentation Provided to the Plan Administrator

1. As lifetime distributions are based upon the uniform table, except where a spouse is sole beneficiary and is more than 10-years younger than the IRA owner, the need to provide documentation to the plan administrator rarely arises, except where this situation exists. Where the exception is applicable, documentation should be provided no later than the Owner’s RBD. Treas. Reg. § 1.401(a)(9)-4, A-6(a).

2. Upon the death of the participant, the trustee of the trust must provide the plan administrator with either18:

a. A final list of all beneficiaries of the trust (including contingent and remaindermen beneficiaries with a description of the conditions on their entitlement) as of September 30th of the calendar year following the calendar year of the employee's death; certify that, to the best of the trustee's knowledge, this list is correct and complete and that the trust is valid under state law, the trust is irrevocable upon death, and the beneficiaries are identifiable from the trust instrument; and agree to provide a copy of the trust instrument to the plan administrator upon demand; or

b. A copy of the actual trust document for the trust that is named as a beneficiary of the employee under the plan as of the employee's date of death.

F. Generally, a beneficiary designation may reference a class-of-beneficiaries that is capable of expansion or contraction and still satisfy the ―individual‖ beneficiary requirement. Treas. Reg. § 1.401(a)(9)-4, A-1.

G. What Entities or Beneficiaries (potential or otherwise) under a Trust must be taken into account to determine whether all trust beneficiaries are identifiable individuals?

1. The regulations do not provide a clear answer with regard to who is to be considered a beneficiary of the trust. Rather, we begin our analysis by reviewing the statutory framework.

a. Treas. Reg. § 1.401(a)(9)-5, A-7(a)(2) provides generally that where multiple beneficiaries exist as of the September 30th beneficiary determination date and one of those beneficiaries is not an ―individual‖ the owner is treated as not having a designated beneficiary.

18

Treas. Reg. § 1.401(a)(9)-4, A-6(b).


b. Treas. Reg. § 1.401(a)(9)-5, A-7(a)(1) provides that where multiple individual beneficiaries exist, the beneficiary with the shortest life expectancy is the designated beneficiary for purposes of determining the distribution period.

c. Treas. Reg. § 1.401(a)(9)-5, A-7(b) provides that ―Except as provided in paragraph (c)(1) of this A-7, if a beneficiary's entitlement to an employee's benefit after the employee's death is a contingent right, such contingent beneficiary is nevertheless considered to be a beneficiary for purposes of determining whether a person other than an individual is designated as a beneficiary (resulting in the employee being treated as having no designated beneficiary under the rules of A-3 of §1.401(a)(9)-4) and which designated beneficiary has the shortest life expectancy under paragraph (a) of this A-7.‖

d. Treas. Reg. § 1.401(a)(9)-5, A-7(c)(1) provides that a potential beneficiary need not be counted where such beneficiary is a ―mere potential successor to the interest.‖

2. The question thus becomes not who is (or is likely to be) a beneficiary of the trust, but rather, at what point can we stop the inquiry as to class of potential beneficiaries. In this regard, it will be necessary to review the structure of the trust to determine what beneficiaries are to be considered.

3. Estate or Charitable Beneficiaries. Based upon Treas. Reg. § 1.401(a)(9)-5, A-7, it is clear that where a non-individual beneficiary is a countable beneficiary of a trust, such as a charity or an estate, such trust will not qualify for Designated Beneficiary Status. This issue may arise in an unexpected manner, such as where Trust assets are available for the payment of the Owner’s estate tax, expenses of administration, and debts of the estate. In this case, the Service has argued that the estate is a de facto beneficiary. Several PLRs have highlighted this issue. See PLRs 9809059, 9820021, 199912041 and 200010055. In this regard, where a trust is used, it would be prudent to include a provision in the trust to preclude the use of Retirement Assets for this purpose. Alternatively, the trust may provide for payment of such expenses, provided that such payment occurs only prior to September 30th of the year following the year of death.

4. Based upon Treas. Reg. § 1.401(a)(9)-5, A-7, we generally can classify trusts (to which retirement assets are paid) as falling into one of two categories. This initial classification will allow us to then analyze which beneficiaries need to be taken into consideration.


a. Conduit Trusts. This structure requires that as each distribution is received by the trust, the trust merely distributes the same to the current beneficiary. Therefore, the trust does not ―trap‖ any of the RMDs inside of the trust. Where a conduit trust exists, one need not consider remainder beneficiaries or potential appointees. This result is confirmed by Example 2 of Treas. Reg. § 1.401(a)(9)-5, A-7(c)(3). See also PLRs 199931033, 200106046 and 200537044.

b. ―Accumulation‖ Trusts. These types of trusts allow for accumulation of IRA distributions within the trust. The key analysis with this type of trust is to determine which beneficiaries (or potential beneficiaries) must be taken into account.

5. In many, if not most cases, the trust will be structured as an ―accumulation‖ trust. Thus, an analysis is required as to whether the trust will qualify.

a. When dealing with an accumulation trust, all potential beneficiaries (contingent or otherwise) must be taken into account in determining whether a designated beneficiary exists, unless such beneficiary is a mere potential successor. Treas. Reg. § 1.401(a)(9)-5, A-7(c).

b. Where the trust may accumulate IRA distributions, one now must determine who the potential beneficiaries are of the trust. This requires consideration of all contingent beneficiaries, limited and general powers of appointment, and in some cases, the failure of beneficiaries clause.

c. Where an accumulation trust is named, the inquiry as to which beneficiaries are countable ends when the potential no longer exists for trust accumulation. In this regard, where an outright distribution would occur to a then living beneficiary, such inquiry would end at that beneficiary. See PLRs 200228025, 200528035 and 200610026.

d. Example, assume a trust is created for child #1. Distributions may be made from this trust for the child’s health, education, support or maintenance. Upon the child reaching age 30, the trust terminates. Further, assume that the trust requires that should child #1 die prior to full distribution, the balance of the trust is then payable outright to the child’s issue, or failing that, his siblings. We will assume that the IRA owner dies when the beneficiary is age 12 (and has no issue). In this case, as of the September 30th beneficiary determination


date, the IRA may be accumulated in trust for the child and subsequent beneficiaries, therefore, we must take into consideration the child’s siblings. Is this the end of the inquiry? In this case, yes, as the IRA will be distributed free of trust upon the child’s death. However, what if the trust was to remain in existence until such siblings reach age 30 and none are of this age upon the beneficiary determination date? In this case, one would also have to take into consideration the ―failure of beneficiaries clause.‖

e. In many cases, a share may be retained in trust for multiple generations. In this case, the Service will inquire as to future and remote beneficiaries. If the trust is to be held for children, grandchildren and great-grandchildren, a problem exists if no grandchildren or great-grandchildren are yet born. In this regard, there may be a failure of beneficiaries. In this case, we must take into consideration the possibility that the failure of beneficiaries clause may become operable. The failure of beneficiaries clause will often operate by the laws of intestacy of an elected jurisdiction. Often, this will include the potential for older beneficiaries than the initial trust beneficiary, but also include the potential for escheating to the state. Thus, if this is the case, no designated beneficiary would exist.

f. Where accumulation trusts are used, the language of the regulations appear to end the inquiry at that point where the entire interest (IRA and Trust corpus) will be distributed free of trust.

g. PLR 200228025: A trust was named the beneficiary of an IRA. There were two young children named initial beneficiaries of the trust. Under the terms of the trust, if one of the children died before age 30, the child's share went to the child's issue. If the child had no living issue, the trust went to the other child. If both children died before age 30 without issue, the trust passed to a much older great-uncle. The Service ruled that the great-uncle’s life expectancy must be used to determine post-death RMDs.

6. Powers of Appointment. Where the trust includes a power of appointment and is not structured as a conduit trust, consideration must be given to the effect of the power of appointment. Often, the trust will be considered under the ―life expectancy‖ test whereby all potential beneficiaries, including appointees under a power of


appointment must be taken into consideration. Such appointment may take the form of a general or limited power of appointment.19

a. General Powers of Appointment. A general power of appointment exists where a beneficiary has the ability to appoint assets to himself, his estate, his creditors, or the creditors of his estate. Only where the general power of appointment is crafted to be exercisable in favor of (a) such beneficiary during the trust term or (b) individual creditors younger than the oldest trust beneficiary, will the general power of appointment be narrow enough to not cause disqualification.

b. Limited Powers of Appointment. A limited power of appointment can generally be defined as the power to appoint property to anyone other than the owner, his estate, his creditors, or the creditors of his estate. This power may be drafted on a much narrower basis, such as the ability to appoint property to ―issue.‖ In order to satisfy the ―beneficiaries identifiable‖ test, it must be possible to determine the potential appointees in order to ascertain the shortest life expectancy. If, for example, a power to appoint to ―issue‖ is used and adoptees of a child are to be treated as issue, does this satisfy the ―beneficiaries identifiable‖ rule? Although highly improbable, it would be possible (assuming the trust instrument permitted) for a child to adopt an individual older than the oldest trust beneficiary. A solution appears to be to limit the permissible class of beneficiaries to those who are younger than the current beneficiary.20

See, for example, PLRs 200235038-200235041. In these PLRs, the initial beneficiaries were given a limited power of appointment. The power of appointment was limited to (1) any individual born in a calendar year prior to the calendar year of birth of the decedent’s oldest living issue at the time of the decedent’s death, (2) any person other than a trust or an individual, or (3) any trust that may have as a beneficiary an individual born in a calendar year prior to the calendar year of birth of the decedent’s oldest living issue at the time of the decedent’s death. The Service ruled that the trust was a valid "see-through" trust and that RMDs could be based on the oldest child’s life expectancy.

19

See IRC §§ 2514 and 2041. 20

Even where this is the case, it is at least arguable that the limited power of appointment may be exercised in further trust for unborn beneficiaries (as of September 30 of the year following the year of the Owner’s death). Thus, a question could be raised as to the whether all trusts beneficiaries are identifiable individuals.


7. Dynasty Trusts (as previously discussed). Treas. Reg. § 1.401(a)(9)-5, A-7(a)(1) generally provides that where multiple beneficiaries exist, such as the case in a Dynasty Trust, and one of those beneficiaries is not an ―individual‖ the owner is treated as not having a designated beneficiary. Further, it is clear that pursuant to Treas. Reg. § 1.401(a)(9)-5, A-7(a)(1), where a non-individual beneficiary may benefit from a trust, such trust will not qualify for Designated Beneficiary status. Thus, the question becomes, in the context of a trust that terminates in favor of (or benefits) a class of unborn beneficiaries, are such potential beneficiaries ―individuals?‖ The trust qualification rules under IRC § 401(a)(9) require us to consider all potential beneficiaries under the trust. Unless the trust is drafted to avoid this, under Wis. Stats. § 852.01(3), the failure of beneficiaries would result in the trust terminating and escheating to the State of Wisconsin. Because the State of Wisconsin is not an individual, the trust would not allow for designated beneficiary status.

H. Naming one’s probate avoidance revocable trust as a beneficiary. Often, for convenience and sound estate planning reasons, the probate avoidance trust serves as the funnel through which all assets pass. However, the probate avoidance revocable trust is typically poorly suited to serve as a beneficiary of retirement assets. Some issues to consider are:

1. Is the trust structured to divide into a QTIP trust and Credit Shelter Trust? If so, the QTIP will likely preclude a spousal rollover (which may or may not be appropriate). If the IRA owner dies first, since the surviving spouse is typically a beneficiary of the Credit Shelter Trust, he or she will also likely be the measuring life.

2. How are estate taxes, expense of administration, debts of the decedent to be paid? Will the IRA be part of the assets made available for this?

3. Does the potential exist for acceleration of income tax on the funding of a credit shelter or marital trust?

4. Does the trust contain powers of appointment for flexibility? Do such powers cause trust disqualification? Will the IRA owner want to compromise flexibility by eliminating the powers in order to allow the trust to qualify for designated beneficiary status?

5. Does the trust include charitable or non-individual beneficiaries? Unless the ―charitable purge‖ tool can eliminate the charity or non-individual beneficiaries from consideration, this will cause acceleration of RMDs.


6. Does the fact that the separate share rule does not appear to be applicable where a single trust creates multiple sub-trusts affect the RMDs?

I. QTIP Trusts

1. Revenue Ruling 2006-26.

2. Satisfying the ―all income‖ requirement.

3. Application of Uniform Principal and Income Act.

4. Making the Election for both the Retirement Asset and QTIP Trust.

5. Coordinating the Reverse QTIP Election.

J. Community Property Issues.

1. ERISA preemption. 29 U.S.C. §1144(a). ERISA only applies to Qualified Plans. However, see Boggs v. Boggs., No. 96-79 (1997) and Egelhoff v. Egelhoff, No. 99-1529 (2001).

2. IRC §§ 408(g) and 4975 may also limit the recognition of community property interests in Retirement Assets. IRC § 408(g) states in pertinent part, that the governing IRA requirements and taxability ―shall be applied without regard to any community property laws.‖ See also Bunney v. Comm’r., 114 T.C. 17 (2000). IRC § 4975(c) outlines the acts constituting prohibited transactions, to include an exchange of the IRA interest of the title holder with a spouse.

K. Separate Share Rule. The separate share rule found under Treas. Reg. § 1.401(a)(9)-5, A-7 is not available where the beneficiary designation names a trust and such trust creates separate sub-trusts. Instead, the regulations require that the separate shares be specifically named as beneficiaries at the beneficiary designation level. Treas. Reg. § 1.401(a)(9)-4, A-5(c). See PLR 200537044. Further, from a non-tax related structural standpoint, consideration must be given as to whether a separate share trust is even appropriate.

L. Special Spousal Rules Where Benefit is Payable Through Trust. If multiple trust beneficiaries exist, or are deemed to exist (such as in the case of a QTIP trust), RMDs are based upon the Single Life Table. Further, a surviving spousal beneficiary is not entitled to postpone the start of minimum distributions until the owner would have been age 70½ had he or she lived as the spouse is not deemed to be the sole beneficiary. In this case, distributions must begin no later than December 31st of the year following the year of death. When then is a spouse treated as the sole beneficiary of a trust?


If a spouse is the sole primary beneficiary of a conduit trust21, it appears that the spouse will be treated as sole beneficiary of a trust. Accordingly, the spouse can postpone the start of minimum distributions until the owner would have been age 70½ had he or she lived. In the year RMDs must begin, the RMD is calculated based upon the spouse's life expectancy by referencing her attained age for the year of distribution based on the Single Life Table. For each succeeding year, the surviving spouse references his or her age under the Single Life Table.

PLR 200644022 confirmed this RMD treatment, but also highlighted an unintended result that can occur when utilizing this strategy. When a spouse is treated as a sole beneficiary and does not perform a rollover, if the spouse dies before the owner would have been age 70½, the spouse is deemed to be the owner/participant and a beneficiary is determined as of September 30th of the year following death.22 In PLR 200644022, the spouse was the sole primary beneficiary of a conduit trust. The spouse died after the IRA owner, but before the owner would have been 70½. Because the IRA was payable to the trust, the spouse did not name a beneficiary of her interest in the IRA. Thus, the IRS found that the 5-year rule applied to the distribution of amounts remaining in the IRA at the spouse's death (because the spouse was deemed to not have a designated beneficiary). Therefore, caution must be exercised when paying an IRA to a conduit trust for the benefit of a spouse.

M. Single Pot Trusts versus Separate Share Trusts. Non-tax reasons may be more important for a family to maintain an IRA in a single-pot trust rather than as separate shares. This is especially true where the IRA is not substantial and young children are the beneficiaries of the trust.

N. Sample Provisions Specific to Retirement Assets

1. Protecting Retirement Assets from use for Decedent’s Debts, Taxes and Expenses of Administration

Notwithstanding anything herein to the contrary, no payment of taxes of any kind, or payment of debts or expenses of administration shall be made from any Retirement Assets, or the proceeds of such account or plan, for any such taxes, debts or expenses of administration if such payment would cause the Trust or any such plan or account to be considered to have a beneficiary other than a qualified Designated Beneficiary under IRC § 401(a)(9)(D) for purposes of determining required minimum distributions under IRC § 401(a)(9)(A)(ii) and the Regulations thereunder.

21

Any and all amounts distributed from the IRA must be paid outright to the spouse. 22

Treas. Reg. § 1.401(a)(9)-4, Q&A 4(b).


2. Creating a General Power of Appointment over a Trust Without Losing ―Designated Beneficiary Status.‖

Upon the death of the Grantor and subsequent death of the Primary Beneficiary, the Trustee shall transfer, convey and pay over the principal of the trust, as it is then constituted, in money and/or in kind, to a group consisting of such individual creditors younger than Primary Beneficiary and/or one or more of the descendants of the Primary Beneficiary who are younger than the Primary Beneficiary. Such appointment shall be made absolutely (not in trust), if at all, to such extent, in such amount or proportions, as the Primary Beneficiary may by his or her Last Will and Testament appoint by specific reference to this power.

3. Excluding Older Adoptees.

Notwithstanding the forgoing, any class of beneficiaries (e.g. “lineal descendants”, “issue” or “child”) hereunder shall not include an individual who is included in said class by virtue of legal adoption if such beneficiary (i) was adopted on or after September 30th of the year following the Grantors’ death, and (ii) is older than the oldest beneficiary of this trust who is a living member of said class on the earlier of said dates.

4. Purging Non-Qualified Beneficiaries.

Notwithstanding other provisions of this Trust agreement, the Trustee may fully payout the interest of any beneficiary who is not an “individual,” and is therefore not a qualified beneficiary within the meaning of IRC § 401(a)(9) and the Regulations and Proposed Regulations thereunder, by September 30th of the year following the year of the Grantor’s death, if in the Trustee’s judgment failure to do so would result in acceleration of distributions from retirement accounts to the detriment of the other beneficiaries or the objectives of this Trust.

5. Allow for Dynasty Trust Treatment by Eliminating the Possibility for Escheat to the State [included in failure of beneficiaries clause].

Upon the death of the last of the Grantor’s lineal descendants, the Trustee shall distribute the balance then remaining as follows:

All assets and property comprising the Trust Estate directed to be disposed of in accordance with the terms and conditions set forth in this Paragraph shall be distributed to the descendants of the Grantor’s parents then living per stirpes, provided that any such descendant born before the oldest initial Primary Beneficiary shall be deemed deceased; in default thereof, the oldest initial Primary


Beneficiary’s next of kin then living, regardless of how remote their degree of kinship is, provided that persons born before the oldest initial Primary Beneficiary shall be deemed deceased.

With respect to usage of the term “next of kin,” it is my intent to override Wis. Stat. § 854.22(1) to eliminate the potential for escheat to the state of Wisconsin and rather use this term to create interests based on consanguinity.

IV. Bankrutpcy Protection

A. The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 made a number of amendments to the treatment of employee benefit plans in bankruptcy, including an amendment to 11 USCS 522 that allows debtors to exempt retirement funds from the bankruptcy estate to the extent that they are in a fund or account that is exempt from taxation under Code Sec. 401 (qualified retirement plans), Code Sec. 403 (tax-favored annuities), Code Sec. 408 (traditional IRAs), Code Sec. 408A (Roth IRAs), Code Sec 414 (multi-employer plans), Code Sec. 457 (govern-mental and exempt organization plans, or Code Sec. 501(a) (tax exempt organizations). The Act provides for complete protection of rollover IRAs, but an inflation adjusted $1 million cap is imposed on the total value of an individual debtor’s interest in a traditional contributory IRA (other than a SEP or a Simple plan) or Roth IRA that may be claimed as exempt property.

B. The distinction between rollover IRAs and contributory IRAs provide a

potential litigation nightmare. Take, for example, a client who takes pension proceeds and rolls them into an existing contributory IRA and 15 years later goes through a bankruptcy when the value of the IRA has increased substantially. Although legions of accountants may try to figure out what portion of the IRA properly belongs as part of the "rollover account" and what part belongs as part of the traditional "contributory account," experts on both sides may disagree, necessitating a Bankruptcy Court ruling. To avoid this situation in its entirety, we are recommending that rollover IRAs be kept separate and distinct from contributory IRAs and labeled as such. The moral of the story is that traditional contributory IRAs should not be commingled with rollover IRAs in order to provide your clients the maximum protection possible under the Bankruptcy Act.

V. Pension Protection Act of 2006 (PPA)

A. Non-Spouse Rollovers

1. Generally, participants and surviving spouse beneficiaries may roll over amounts from qualified retirement plans, IRC §403(b) annuities, and IRAs to another qualified retirement plan or IRA. Under prior law, non-spouse beneficiaries were not able to roll over


these inherited amounts into an IRA. As a result, they were bound by the payout provisions of the plan document. Under Section 829 of the PPA, however, post-mortem trustee-to-trustee transfers of qualified retirement plans to inherited IRAs by non-spouse beneficiaries are now allowed. Further, this new law also permits the post-mortem transfer of these plans to inherited IRAs which are held by trusts for the benefit of the non-spousal beneficiaries. Both of these provisions apply to distributions made after December 31, 2006.

2. It is important that the inherited IRA remain in the deceased owner's name (i.e. the 401(k) owner) for the benefit of the beneficiary (e.g. "Linda Smith, Deceased IRA f/b/o Jim Smith").

3. Example 1: On February 1, 2009, Linda passes away, naming her

son Jim as sole beneficiary of her 401(k). On June 1, 2009, Jim transfers his mother's 401(k) to an inherited IRA for his benefit via a trustee-to-trustee transfer. Under the new tax law, Jim is permitted to make this post-mortem transfer to an inherited IRA for his benefit.

4. Example 2: Assume the same facts as Example 1, except that Linda named a trust, for the benefit of Jim, as beneficiary of her 401(k). As long as the trust qualifies as a designated beneficiary under the regulations, the trustee can make a post-mortem trustee-to-trustee transfer of the 401(k) to an inherited IRA for Jim's trust’s benefit.

5. Notice 2007-7. Because qualified plans often require more rapid

distribution schedules than would otherwise be allowed under IRC Sec. 401(a)(9) and the related Regulations, this new provision was heralded as the end of mandated quick payouts from qualified plans. It was initially thought that if a beneficiary was forced under the 5-year rule by a plan document alone, that such beneficiary could perform a rollover to an inherited IRA and thereafter be able to utilize the life expectancy method. Unfortunately, when Notice 2007-7 was released, it became clear that the IRS was not giving all beneficiaries the opportunity to take advantage of this new rule.

a. For those who inherited a plan before 2002 and were

required to take distributions under the five-year rule, no rollover is allowed because the entire amount was required to be distributed before 2007 – the year IRC Sec. 402(c)(11) became effective. For those who inherited a plan in 2002 and were required to take distributions under the five-year rule, the IRS again states that no rollover is allowed. Specifically, Notice 2007-7 states that ―On or after January 1 of the fifth year following the year in which the employee


died, no amount payable to the beneficiary is eligible for rollover‖. Accordingly, beneficiaries who inherited a qualified plan from an employee who died before 2003 and were taking distributions under the five-year rule cannot roll over the plan into an inherited IRA.

b. For employees who died after 2002 but before 2006, if their

beneficiaries are under the five year rule, the beneficiaries can perform a rollover but will still be subject to the five year payout. The rollover must occur before the year containing the fifth anniversary of the employee’s death. The allowable rollover amount is, of course, the amount that has not already been distributed from the plan.

c. When an employee dies in 2006 or later, the beneficiary has the ability to switch from the five year rule under the plan to the life expectancy method under the IRA. As long as the rollover occurs no later than December 31st of the year following the year of the employee’s death, non-spouse beneficiaries can escape the plan-mandated five-year rule by performing a rollover to an inherited IRA. This avoids the lost deferral that comes from accelerated payments.

d. Notice 2007-7 also indicated that non-spouse rollovers will

only be allowed if the plan allows for such rollovers. However, beginning in 2010, all plans must be amended to allow for such non-spousal rollovers so this option will be available to everyone.

B. Direct Rollovers of Qualified Retirement Plans to Roth IRAs

1. In the past, if taxpayers wanted to do a Roth IRA conversion, they would have to first roll the funds from the qualified retirement plan to a traditional IRA and then convert the traditional IRA to a Roth IRA. However, under the PPA, taxpayers are eligible to directly roll funds from "eligible retirement plans" (as defined under IRC §402(c)(8)(B)) to Roth IRAs starting in the 2008 tax year. It is important to note that the current rules governing Roth IRA conversions (i.e. $100,000 Adjusted Gross Income limitation) remain unchanged by this new law.

2. Example 1: In 2009, John had $1,000,000 in his 401(k) plan and adjusted gross income of $80,000. In December 2009, John transfers $200,000 of his 401(k) assets into a newly-created Roth IRA. Under the new tax law, John is permitted to make this direct transfer to his Roth IRA.


3. Example 2: Same facts as Example 1, except that John had adjusted gross income of $110,000. In this case, John would be ineligible to convert his 401(k) to a Roth IRA because his adjusted gross income exceeds the $100,000 limitation.

C. Direct payment of refunds to IRAs

1. Effective Date: Tax years beginning after December 31, 2006. 2. The new law requires the IRS to provide a tax form that allows

taxpayers to direct the IRS to send their income tax refunds directly to the taxpayer’s IRA.

These materials are intended to impart accurate and authoritative information regarding retirement distribution planning in the estate planning context. Despite best efforts to include accurate and up to date information, given the many unresolved questions and constantly changing legislation and interpretation, citations and conclusions reached by the author and presenter should be independently verified. The applicability to a particular client of any information contained herein and the risks associated with such planning must be determined by an experienced practitioner in consultation with a particular client. As such, these materials do not constitute legal, accounting or professional advice. In no event will Keebler & Associates, LLP be liable with respect to any direct, indirect or consequential loss or damage caused, or alleged to be caused, by the use of these materials or conclusions drawn therefrom.

Pursuant to the rules of professional conduct set forth in Circular 230, as promulgated by the United States Department of the Treasury, nothing contained in this communication was intended or written to be used by any taxpayer for the purpose of avoiding penalties that may be imposed on the taxpayer by the Internal Revenue Service, and it cannot be used by any taxpayer for such purpose. No one, without our express prior written permission, may use or refer to any tax advice in this communication in promoting, marketing, or recommending a partnership or other entity, investment plan or arrangement to any other party.

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