Magical Mystery Tour: An Introduction to IRA and Retirement Plan Basics Presented by: Dennis M. Sandoval, J.D., LL.M. (Tax), CELA, EA Director of Education American Academy of Estate Planning Attorneys Presented by: Dennis M. Sandoval, J.D., LL.M. (Tax), CELA, EA Director of Education American Academy of Estate Planning Attorneys

Overview of Retirement Assets  What are Retirement Assets?  Individual Retirement Accounts  SEP-IRAs / Simple Plans / Keoghs  403(b) Plan  457 Plan  Qualified Plans  Money Purchase  Profit Sharing  401(k) Plan  What are Retirement Assets?  Individual Retirement Accounts  SEP-IRAs / Simple Plans / Keoghs  403(b) Plan  457 Plan  Qualified Plans  Money Purchase  Profit Sharing  401(k) Plan

Overview of Retirement Assets  Income in Respect of a Decedent (IRD)  No step-up in basis under IRC § 1014  Taxed to beneficiary as ordinary income when distributed from a retirement plan  Most heavily taxed assets, with double or triple taxation possible: Income, Estate, GST  Income in Respect of a Decedent (IRD)  No step-up in basis under IRC § 1014  Taxed to beneficiary as ordinary income when distributed from a retirement plan  Most heavily taxed assets, with double or triple taxation possible: Income, Estate, GST

Overview of Retirement Assets  IRD Deduction  Income tax deduction allowed for federal estate taxes attributable to the Retirement Assets. IRC § 691(c)  Deduction =  Difference between  Federal Estate tax w/ Retirement Assets included and  Federal Estate tax w/o Retirement Assets included Treas. Reg. § 1.691(c)-1(a)  IRD Deduction  Income tax deduction allowed for federal estate taxes attributable to the Retirement Assets. IRC § 691(c)  Deduction =  Difference between  Federal Estate tax w/ Retirement Assets included and  Federal Estate tax w/o Retirement Assets included Treas. Reg. § 1.691(c)-1(a)

Overview of Retirement Assets  Options for Distributions from Qualified Plans  Joint and Survivor Annuity  Single Life Annuity  Period Certain Annuity  Lump Sum  Options for Distributions from Qualified Plans  Joint and Survivor Annuity  Single Life Annuity  Period Certain Annuity  Lump Sum

Overview of Retirement Assets  Options for Distributions from Qualified Plans  Retirement Equity Act (“REA”)  most qualified plan benefits of a married person must be paid as a joint and survivor annuity with payments to the spouse equal to 50% of the benefits paid during the participant’s life  Modification allowed after participant is 35 or over, but only with consent of spouse IRC §§ 401(a)(11); 417(a)(6)(B)  Options for Distributions from Qualified Plans  Retirement Equity Act (“REA”)  most qualified plan benefits of a married person must be paid as a joint and survivor annuity with payments to the spouse equal to 50% of the benefits paid during the participant’s life  Modification allowed after participant is 35 or over, but only with consent of spouse IRC §§ 401(a)(11); 417(a)(6)(B)

Overview of Retirement Assets  Rollover Options  Distribution from Qualified Plan or IRA is eligible to rollover to IRA unless:  One of a series of payments taken over single or joint life expectancies  One of a series of payments received for a specified period of ten years or more  A Required Minimum Distribution (“RMD”) IRC §§ 402(c)(1) and (4)  Rollover Options  Distribution from Qualified Plan or IRA is eligible to rollover to IRA unless:  One of a series of payments taken over single or joint life expectancies  One of a series of payments received for a specified period of ten years or more  A Required Minimum Distribution (“RMD”) IRC §§ 402(c)(1) and (4)

Overview of Retirement Assets  Rollover Options  Subject to 20% withholding for income tax  Sixty Day Requirement  IRA can waive. See Rev. Rul  Trustee to trustee transfers  Rollover Options  Subject to 20% withholding for income tax  Sixty Day Requirement  IRA can waive. See Rev. Rul  Trustee to trustee transfers

Overview of Retirement Assets  Required Beginning Date (“RBD”)  April 1 st of calendar year AFTER the calendar year in which participant reaches age 70 ½  John is born 6/30/1934, so he turns 70 on 6/30/2004 and age 70 ½ on 12/30/2004 – first Required Minimum Distribution (“RMD”) on April 1, 2005  John is born 7/1/1934, so he turns 70 on 71/2004 and age 70 ½ on 1/1/2005 – first RMD on April 1, 2006  Required Beginning Date (“RBD”)  April 1 st of calendar year AFTER the calendar year in which participant reaches age 70 ½  John is born 6/30/1934, so he turns 70 on 6/30/2004 and age 70 ½ on 12/30/2004 – first Required Minimum Distribution (“RMD”) on April 1, 2005  John is born 7/1/1934, so he turns 70 on 71/2004 and age 70 ½ on 1/1/2005 – first RMD on April 1, 2006

Overview of Retirement Assets  Required Beginning Date  If participant is not retired at 70½ and is not a 5% owner, then RMDs from QUALIFIED PLANS (not IRAs) can be postponed until April 1 of year after participant retires  Required Beginning Date  If participant is not retired at 70½ and is not a 5% owner, then RMDs from QUALIFIED PLANS (not IRAs) can be postponed until April 1 of year after participant retires

Overview of Retirement Assets  Required Minimum Distributions (“RMD”)  Once participant has reached RBD  Must take annual Required Minimum Distributions  Based on the IRS Uniform Distribution Table  EXCEPT:  May use joint table if spouse is more than 10 years younger than participant  Required Minimum Distributions (“RMD”)  Once participant has reached RBD  Must take annual Required Minimum Distributions  Based on the IRS Uniform Distribution Table  EXCEPT:  May use joint table if spouse is more than 10 years younger than participant

Overview of Retirement Assets Uniform Table AgeRMDAgeRMDAgeRMDAgeRMDAgeRMD

Overview of Retirement Assets Selected Excerpt from Joint Table Ages

Overview of Retirement Assets  Penalties  50% penalty for failure to take RMD  IRC § 4974  10% penalty for taking a distribution before age 59½  IRC § 72  Penalties  50% penalty for failure to take RMD  IRC § 4974  10% penalty for taking a distribution before age 59½  IRC § 72

Overview of Retirement Assets  Relief from 50% Penalty  “Reasonable Cause”  Relief from 50% Penalty  “Reasonable Cause”

Overview of Retirement Assets  Exceptions to 10% Penalty  Paid to estate or beneficiary  Disability  Series of Substantially equal periodic payments  Medical care, but not in excess of medical expense deductions for the year  Exceptions to 10% Penalty  Paid to estate or beneficiary  Disability  Series of Substantially equal periodic payments  Medical care, but not in excess of medical expense deductions for the year

Overview of Retirement Assets  Exceptions to 10% Penalty, continued  Higher education expenses (IRA only)  Qualified acquisition costs for principal residence for participant or family member – max. $10,000 (IRA only)  Separation of service after age 55 (Qualified Plan only)  Exceptions to 10% Penalty, continued  Higher education expenses (IRA only)  Qualified acquisition costs for principal residence for participant or family member – max. $10,000 (IRA only)  Separation of service after age 55 (Qualified Plan only)

Distributions at Death  Determination of Beneficiary  Beneficiary to be determined by September 30 th of year after participant’s death  Allows participant to change designated beneficiaries after RBD without increasing RMDs  Allows beneficiaries to be changed after death of participant, such as by disclaimer or by distribution in satisfaction prior to September 30  Useful where trust is named as beneficiary and stretch-out for some trust beneficiaries is desired or where a charity is named as a trust beneficiary  Determination of Beneficiary  Beneficiary to be determined by September 30 th of year after participant’s death  Allows participant to change designated beneficiaries after RBD without increasing RMDs  Allows beneficiaries to be changed after death of participant, such as by disclaimer or by distribution in satisfaction prior to September 30  Useful where trust is named as beneficiary and stretch-out for some trust beneficiaries is desired or where a charity is named as a trust beneficiary

Distributions at Death  Spouse as Beneficiary  Spouse must be sole beneficiary of IRA  Only beneficiary that can “rollover” the decedent’s IRA to his or her own IRA  No RMDs until age 70 ½  Use Uniform Table  Can name new beneficiaries to take at death  Spouse as Beneficiary  Spouse must be sole beneficiary of IRA  Only beneficiary that can “rollover” the decedent’s IRA to his or her own IRA  No RMDs until age 70 ½  Use Uniform Table  Can name new beneficiaries to take at death

Distributions at Death  Spousal Inherited IRA  Death Before RBD  Surviving spouse can take distributions based on his or her life expectancy, but can delay taking distributions until the deceased spouse would have reached age 70 ½  Use Single Life Expectancy Table  Recalculate each year  Can name new beneficiaries to take at death  Spousal Inherited IRA  Death Before RBD  Surviving spouse can take distributions based on his or her life expectancy, but can delay taking distributions until the deceased spouse would have reached age 70 ½  Use Single Life Expectancy Table  Recalculate each year  Can name new beneficiaries to take at death

Distributions at Death  Spousal Inherited IRA  Death After RBD  Distributions based on the longer of spouse’s or participant’s life expectancy  Can can delay taking distributions until the deceased spouse would have reached age 70 ½  Use Single Life Expectancy Table  If using spouse’s life expectancy, recalculate each year. If using participant’s life expectancy, then find age at date of death, then subtract one each year  Can name new beneficiaries to take at death  Spousal Inherited IRA  Death After RBD  Distributions based on the longer of spouse’s or participant’s life expectancy  Can can delay taking distributions until the deceased spouse would have reached age 70 ½  Use Single Life Expectancy Table  If using spouse’s life expectancy, recalculate each year. If using participant’s life expectancy, then find age at date of death, then subtract one each year  Can name new beneficiaries to take at death

Distributions at Death  Inherited IRA (Beneficiary Other Than Spouse)  Death Before RBD  Option 1:  Distributions based on beneficiary’s life expectancy  Must take first distribution by December 31st of year after participant’s death  Use Single Life Expectancy Table  Find age at date of death, then subtract one each year  Can name new beneficiaries to take at death, or  Option 2  Five-Year Rule  Inherited IRA (Beneficiary Other Than Spouse)  Death Before RBD  Option 1:  Distributions based on beneficiary’s life expectancy  Must take first distribution by December 31st of year after participant’s death  Use Single Life Expectancy Table  Find age at date of death, then subtract one each year  Can name new beneficiaries to take at death, or  Option 2  Five-Year Rule

Distributions at Death  Inherited IRA (Beneficiary Other Than Spouse)  Death After RBD  Option 1:  Distributions based on longer of beneficiary’s life expectancy or the life expectancy of the participant as of the year of death  Must take first distribution by December 31st of year after participant’s death  Use Single Life Expectancy Table, or  Option 2  Five-Year Rule  Inherited IRA (Beneficiary Other Than Spouse)  Death After RBD  Option 1:  Distributions based on longer of beneficiary’s life expectancy or the life expectancy of the participant as of the year of death  Must take first distribution by December 31st of year after participant’s death  Use Single Life Expectancy Table, or  Option 2  Five-Year Rule

Distributions at Death  Five Year Rule  No set schedule of distributions, but the Retirement Asset must be fully distributed to beneficiaries no later than December 31 of the year five years from the date of the participant’s death.  Five Year Rule  No set schedule of distributions, but the Retirement Asset must be fully distributed to beneficiaries no later than December 31 of the year five years from the date of the participant’s death.

Overview of Retirement Assets Single Life Expectancy Table for Inherited IRAs AgeRMDAgeRMDAgeRMDAgeRMDAgeRMD

Overview of Retirement Assets Single Life Expectancy Table for Inherited IRAs AgeRMDAgeRMDAgeRMDAgeRMDAgeRMD

Distributions at Death  No Designated Beneficiary Named?  No beneficiary designated by participant  Estate  Charity  Non-Qualified Trust  No Designated Beneficiary Named?  No beneficiary designated by participant  Estate  Charity  Non-Qualified Trust

Distributions at Death  Participant Dies Before RBD  Five-Year Rule  Participant Dies After RBD  Option 1  Remainder of participant’s life expectancy, or  Option 2  Five-Year Rule  Participant Dies Before RBD  Five-Year Rule  Participant Dies After RBD  Option 1  Remainder of participant’s life expectancy, or  Option 2  Five-Year Rule

Distributions at Death Death Before RBDDeath On or After RBD Spouse Rollover – Uniform Table Otherwise, Spouse’s Life Expectancy Recalculated Rollover- Uniform Table Otherwise, Greater of Spouse’s or Participant’s Life Expectancy Non-Spouse Beneficiary’s Life Expectancy Greater of Beneficiary’s or Participant’s Life Expectancy Non- Qualified 5-Year Rule Life Expectancy of Participant or 5-Year Rule

Distributions at Death  Proper Titling for Inherited IRA  John Doe (Deceased) IRA fbo Mary Doe  John Doe (Deceased) IRA fbo Mary Doe, Trustee under the John Doe Trust dated January 1, 1985  John Doe (Deceased) IRA fbo Mary Doe, Trustee of the Jane Doe Trust created under the John Doe Trust dated January 1, 1985  NOT “Mary Doe” (unless spousal rollover)  Proper Titling for Inherited IRA  John Doe (Deceased) IRA fbo Mary Doe  John Doe (Deceased) IRA fbo Mary Doe, Trustee under the John Doe Trust dated January 1, 1985  John Doe (Deceased) IRA fbo Mary Doe, Trustee of the Jane Doe Trust created under the John Doe Trust dated January 1, 1985  NOT “Mary Doe” (unless spousal rollover)

Reasons to Name a Trust as Beneficiary of Retirement Assets  Protect Retirement Assets  Minor beneficiaries  Special needs beneficiaries  Spendthrift beneficiaries  Asset Protection  Children from a Previous Marriage  Under-funded Credit Shelter or Bypass Trust  Protect Retirement Assets  Minor beneficiaries  Special needs beneficiaries  Spendthrift beneficiaries  Asset Protection  Children from a Previous Marriage  Under-funded Credit Shelter or Bypass Trust

Qualified Designated Beneficiary Trust Funding Bypass Trust Using Disclaimed IRA H IRA $1 million Living Trust $3 million Bypass Trust $1.5 million + $500,000 Survivor’s Trust $1.5 million W Rollover $500,000 Disclaim $500,000

Qualified Designated Beneficiary Trust Funding Bypass Using Spousal GPOA – PLR H IRA $1 million Living Trust $3 million Bypass Trust $2 million Survivor’s Trust $1 million W Rollover $1 million

Qualified Designated Beneficiary Trust Funding Bypass Using Aggregate Community Property Agreement H IRA $1 million Living Trust $3 million Bypass Trust $2 million Survivor’s Trust $1 million W Rollover $1 million

Qualified Designated Beneficiary Trust  Look through to trust beneficiaries, if:  Trust is valid under state law  Trust is irrevocable or becomes irrevocable by participant’s date of death  All beneficiaries are identifiable under the terms of the trust  A copy of the trust document is provided to the plan administrator or IRA custodian by no later than October 31 of the calendar year after the death of the participant  Look through to trust beneficiaries, if:  Trust is valid under state law  Trust is irrevocable or becomes irrevocable by participant’s date of death  All beneficiaries are identifiable under the terms of the trust  A copy of the trust document is provided to the plan administrator or IRA custodian by no later than October 31 of the calendar year after the death of the participant

Qualified Designated Beneficiary Trust  Look through beneficiaries  Use the life expectancy of oldest beneficiary to determine RMDs  Treas. Reg. § 1.401(a)(9)-4 Q&A-5(c)  The separate account rules under A-2 of § 1.401(a)(9)-8 are not available to beneficiaries of a trust with respect to the trust’s interest in the employee’s benefit  Contra – PLR  Look through beneficiaries  Use the life expectancy of oldest beneficiary to determine RMDs  Treas. Reg. § 1.401(a)(9)-4 Q&A-5(c)  The separate account rules under A-2 of § 1.401(a)(9)-8 are not available to beneficiaries of a trust with respect to the trust’s interest in the employee’s benefit  Contra – PLR

Qualified Designated Beneficiary Trust  Who is the oldest look through beneficiary?  CAUTION: “Accumulation” Trusts  PLR  Solution:  Limit potential beneficiaries  “Conduit” Trust  Who is the oldest look through beneficiary?  CAUTION: “Accumulation” Trusts  PLR  Solution:  Limit potential beneficiaries  “Conduit” Trust

Qualified Designated Beneficiary Trust  Look through beneficiaries  CAUTION: “Atom Bomb” Beneficiaries  Solution – Limit to younger beneficiaries for purposes of distributing retirement assets  CAUTION: Powers of Appointment  Solution – Limit powers of appoint to younger beneficiaries for purposes of appointing retirement assets  Look through beneficiaries  CAUTION: “Atom Bomb” Beneficiaries  Solution – Limit to younger beneficiaries for purposes of distributing retirement assets  CAUTION: Powers of Appointment  Solution – Limit powers of appoint to younger beneficiaries for purposes of appointing retirement assets

Qualified Designated Beneficiary Trust  Look through beneficiaries  CAUTION: Using retirement assets to pay trustor’s debts, estate taxes or administration expenses = paying to estate of the trustor, i.e., no designated beneficiary  Solution:  Prohibit use of retirement assets to pay for debts, estate taxes or administration expenses, unless these payments can be made prior to September 30 of year after the trustor dies  Look through beneficiaries  CAUTION: Using retirement assets to pay trustor’s debts, estate taxes or administration expenses = paying to estate of the trustor, i.e., no designated beneficiary  Solution:  Prohibit use of retirement assets to pay for debts, estate taxes or administration expenses, unless these payments can be made prior to September 30 of year after the trustor dies

Qualified Designated Beneficiary Trust  Funding Bypass Trust  Pecuniary Funding Formula  ILM (December 15, 2005)  Contra finding in PLRs , , and  Funding Bypass Trust  Pecuniary Funding Formula  ILM (December 15, 2005)  Contra finding in PLRs , , and

Qualified Designated Beneficiary Trust  Funding Bypass Trust  Fractional Formula Allocation  If retirement assets paid to trust to fund under-funded Bypass Trust, require that non-retirement assets be allocated first  Preserve rollover option for surviving spouse  Get “better” assets (w/o income tax liability) into Bypass  Any excess retirement assets be distributed outright to surviving spouse  Funding Bypass Trust  Fractional Formula Allocation  If retirement assets paid to trust to fund under-funded Bypass Trust, require that non-retirement assets be allocated first  Preserve rollover option for surviving spouse  Get “better” assets (w/o income tax liability) into Bypass  Any excess retirement assets be distributed outright to surviving spouse

Where’s the bathroom? Any Questions?