January 9, 2020

The SECURE Act: The elimination of the stretch IRA and how it impacts conduit trusts

Our recent post about the SECURE Act addressed many of the provisions of the new law and discussed how these provisions will impact most taxpayers. In today’s post, I’d like to follow up with a discussion about how the SECURE Act affects the applicable rules in one specific area unique to families with substantial IRA assets: the elimination of the stretch IRA and its impact on conduit trusts.

First some background: assets like life insurance and IRA accounts pass via contract at death, through beneficiary designations. IRA accounts carry with them a series of rules which outline how long a beneficiary may keep the funds growing tax-deferred inside of the inherited IRA. These rules have changed under the SECURE Act — a beneficiary must now liquidate an inherited IRA within ten years (rather than taking things out over the beneficiary’s life expectancy, which was the previous rule).

Trusts are another type of commonly used contract used to transfer assets at death. One benefit of trust-based planning is that it provides an individual the chance to set out specific distribution guidelines in order to protect heirs from themselves and the outside world. Many parents seek to wrap these trust-based protections around IRA assets by naming a trust for the kids as the beneficiary of their IRA.

It is common for friction to develop between what a parent may want to have happen with trust money (for instance, setting provisional rules inheritors must meet or abide by before collecting money) and rules that require IRA assets to generate required minimum distributions for beneficiaries each year. Estate planning attorneys draft around the friction by establishing conduit trusts — trusts that will pass the required minimum distributions along to beneficiaries but will restrict the beneficiary’s access to the remaining trust assets.

These conduit trusts are now buried in estate documents across the country, but the rug may have been pulled out from under many of them by the SECURE Act and its ten-year distribution requirement. Families are looking to other types of trusts (or re-thinking their estate distribution entirely) now that these IRA assets must be fully paid out within ten years.

Conduit trusts are not stand-alone documents; they are usually created inside the provisions of a person’s last will or their revocable living trust. A good way to know if this issue applies to your plan is to check your IRA beneficiary designation forms. If your attorney had you list a trust as beneficiary (or contingent beneficiary) of your IRA, then you ought to reach out to that attorney and make sure your plan will still function properly.

The SECURE Act has changed a variety of the rules around retirement plans. We will continue to update you on the Act as it rolls out. Please contact our planning team if you have questions about how the SECURE Act may impact the ultimate distribution of your assets.