Retirement Accounts Play a Unique Role in Your Estate Plan

November 28, 2012

Retirement Accounts Play a Unique Role in Your Estate Plan

Retirement is looming large -- or is already here -- for much of the U.S. population. As baby boomers continue to retire and current retirees are living longer, it is clear that retirement accounts must be considered in any estate plan. In fact, as 401(k)s and IRAs become more and more a significant part of retirees' estates, retirement accounts are proving to be the largest asset for many people.

Any good estate plan must account for the tax consequences of retirement accounts. Understanding your retirement account and its impact on your beneficiaries is essential to providing for heirs and loved ones upon your death.

Tax Effects

In general, the beneficiaries of inherited property do not have to pay income tax on the inheritance. After all, the IRS taxed your income when you received it. However, because of the tax-deferred status of retirement accounts, the beneficiary of a retirement account will have to pay income taxes on funds received according to his or her personal income tax rate.

Federal law mandates that retirees begin taking withdrawals from a retirement account after a certain age; beneficiaries must also begin withdrawing funds upon the death of the owner. Retirement accounts vary on how quickly the funds have to be withdrawn and how much tax your beneficiaries must pay on the funds as they are withdrawn. Understanding your personal retirement account and your overall estate plan can play a huge role in determining the best way to administer your estate.

For example, if your estate is large enough to pay the "death tax" and much of your liquid assets are in a retirement account, your estate may have to use your retirement account -- at a disadvantage to your beneficiaries -- in order to meet its tax obligation. Planning for such situations can reduce the tax obligations of both your estate and your beneficiaries.

Beneficiaries and Taxes

Naming your spouse as the beneficiary of your retirement account is often a good choice. A spouse can rollover your retirement account to his or her own retirement plan, allowing for tax-free growth until he or she reaches the age of 70.5. Depending on your account, other relatives may also stretch out the withdrawal of retirement account funds over the period of their life expectancy, which provides for tax-free growth for any funds remaining.

Charitable donations forego income taxes entirely, as 501(c)(3) organizations do not have to pay income taxes at all. A charitable donation also reduces the size of your estate, which could help reduce its tax burden.

You must also decide if the beneficiary of your retirement account should be a trust. Naming a trust as beneficiary is crucial in certain circumstances, such as if you want to provide for a special-needs child using your retirement account.

Contact an Estate Planning Attorney

The tax implications of a retirement account are numerous and vary depending upon an individual's particular plan. Contact an experienced estate planning attorney to discuss your options regarding your retirement account.

Article provided by Berman & Asbel, LLP
Visit us at http://www.estateplanning-ssdi.com