ESTATE PLANNING AND IRAS First Run Broadcast: November 12, :00 p.m. E.T./12:00 p.m. C.T./11:00 a.m. M.T./10:00 a.m. P.T.

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1 ESTATE PLANNING AND IRAS First Run Broadcast: November 12, :00 p.m. E.T./12:00 p.m. C.T./11:00 a.m. M.T./10:00 a.m. P.T. (60 minutes) Liquid assets held in individual or employer sponsored qualified plans traditional and Roth IRAs and 401(k)s primarily are often the largest asset of individual estates. These accounts can also hold illiquid and difficult-to-value assets like shares of a closely held company, family real estate, art, jewelry or other nontraditional assets. Most of these accounts have tax-favored status but come with their own peculiar tax and distribution rules that can complicate trust and estate planning. This program will cover planning opportunities with trusts and traditional and Roth IRAs and 401(k) accounts, the opportunities and traps of custom versus form-driven beneficiary designations, circumstances in which re-characterization of IRAs makes sense or not, and planning with difficult-to-value assets like closely held company stock. Estate and trust planning with retirement accounts traditional and Roth IRAs and 401(k) accounts Use of see-thru, conduit, accumulation, and QTIP trusts in connection with retirement accounts Opportunities and traps custom drafted v. form designations When conversion of a traditional IRA to a Roth IRA makes sense or doesn t Valuation and minimum distributions with hard-to-value closely held businesses When creditors may claim retirement account assets Speaker: Blanche Lark Christerson is a managing director at Deutsche Bank Private Wealth Management in New York City, where she works with clients and their advisors to help develop estate, gift, tax, and wealth transfer planning strategies. Earlier in her career she was a vice president in the estate planning department of U.S. Trust Company. She also practiced law with Weil, Gotshal & Manges in New York City. Ms. Christerson is the author of the monthly newsletter Tax Topics." She received her B.A. from Sarah Lawrence College, her J.D. from New York Law School and her LL.M. in taxation from New York University School of Law.

2 VT Bar Association Continuing Legal Education Registration Form Please complete all of the requested information and fax or with credit card info or mail it with payment to: Vermont Bar Association, PO Box 100, Montpelier, VT Fax: (802) PLEASE USE ONE REGISTRATION FORM PER PERSON. First Name Middle Initial Last Name Firm/Organization Address City State ZIP Code Phone # Fax # Address Estate Planning and IRAs Teleseminar November 12, :00PM 2:00PM 1.0 GENERAL MCLE CREDIT VBA Members $75 Non-VBA Members $115 NO REFUNDS AFTER November 5, 2013 PAYMENT METHOD: Check enclosed (made payable to Vermont Bar Association) Amount: Credit Card (American Express, Discover, Visa or Mastercard) Credit Card # Exp. Date Cardholder:

Vermont Bar Association CERTIFICATE OF ATTENDANCE Please note: This form is for your records in the event you are audited Sponsor: Vermont Bar Association Date: November 12, 2013 Seminar Title:

3 Vermont Bar Association CERTIFICATE OF ATTENDANCE Please note: This form is for your records in the event you are audited Sponsor: Vermont Bar Association Date: November 12, 2013 Seminar Title: Location: Credits: Estate Planning and IRAs Teleseminar 1.0 General MCLE Credit Luncheon addresses, business meetings, receptions are not to be included in the computation of credit. This form denotes full attendance. If you arrive late or leave prior to the program ending time, it is your responsibility to adjust CLE hours accordingly.

4 PROFESSIONAL EDUCATION BROADCAST NETWORK Speaker Contact Information ESTATE PLANNING AND IRAS Blanche Lark Christerson Deutsche Asset & Wealth Management - New York City (o) (212) blanche.christerson@db.com

5 Deutsche Asset & Wealth Management Roth IRA Conversions Blanche Lark Christerson, Managing Director

6 What changed in 2010 ANYONE, regardless of income level or income tax filing status, can now convert a traditional IRA into a Roth Traditional IRA is any IRA other than a Roth IRA or a SIMPLE IRA Deutsche Asset & Wealth Management 1

7 Why a Roth IRA? Roths are powerful wealth accumulation vehicles because The Roth owner has NO required minimum distributions The surviving spouse beneficiary has NO required minimum distributions (provided he or she rolls over the account) Only when, say, both Mom and Dad are gone and the children inherit the account must distributions begin but those are income-tax free! Deutsche Asset & Wealth Management 2

8 Who are ideal candidates for conversion? Think of the issue like a barbell: On one end, are people for whom conversion would trigger little or no tax On the other end, are wealthy individuals with big IRAs who: Don t need the IRA for retirement Wouldn t touch it if they didn t have to Have plenty of money to pay the tax on conversion Like the idea of leaving heirs an income-tax free asset and then, in the middle, is everybody else Deutsche Asset & Wealth Management 3

9 Why conversions may make sense Tax rates have increased and may go higher Although hard to guess what someone s tax rate will be in retirement, additional income from unconverted traditional IRA may mean: More Social Security income is taxable Bigger haircut on itemized deductions ( Pease limitation ) Potential loss of exemptions (PEP personal exemption phaseout) Greater potential exposure to the new 3.8% surtax on net investment income, such as dividends, interest and capital gains (more taxable income means more likely to exceed income thresholds for the tax -- $200,000 individuals; $250,000 joint filers) The Roth s earnings will be income-tax free Deutsche Asset & Wealth Management 4

10 Why conversions may not make sense The income tax triggered by conversion may be prohibitive The opportunity cost of the tax dollars may outweigh the actuarial benefit from the Roth (i.e., what is the prospective longevity of the person converting?) Possibility that tax treatment of Roths may change in the future or become part of a need-based computation Possibility that inherited IRAs passing to non-spouse beneficiaries will have to come out within 5 years of owner s death (FY 2014 Budget proposal) Deutsche Asset & Wealth Management 5

11 How much is the tax on conversion? That depends on the person s basis in the account In general, if the traditional IRA is a Rollover from the person s pension plan, profit-sharing plan, 401(k) or other employersponsored plan, the account was probably funded with pre-tax dollars i.e., dollars on which income tax has not yet been paid in that case, there is ZERO basis in the account, and any amount converted would be subject to income tax But what if there have been non-deductible contributions to the account? Those non-deductible or after-tax dollars constitute basis Deutsche Asset & Wealth Management 6

12 Example zero basis Dad leaves XYZ Company and rolls over his $1 million profit-sharing plan into an IRA. In 2013, he converts the account, 100% of which is subject to income tax because it was all funded with pre-tax dollars. Assume that with federal, state and local taxes, Dad owes $450,000 in tax (45% effective rate). He has plenty of other money with which to pay the tax, and now has a $1 million Roth IRA. Deutsche Asset & Wealth Management 7

13 Example basis Sally is in her late 30 s. She makes too much to have a deductible IRA or to contribute to a Roth IRA. But she still wants to save for retirement. She s therefore contributed a total of $25,000 to a non-deductible IRA. The account is now worth $30,000. Sally converts the account in 2013, and must pay income tax on the account s $5,000 worth of earnings. This is her only IRA. Deutsche Asset & Wealth Management 8

14 What if there s more than one IRA and basis? Basis applies to ALL IRAs it s not segregated In a perfect world, the IRA contributor has been filing the Form 8606 to record that basis! Deutsche Asset & Wealth Management 9

15 Example basis and more than one IRA Sally has her $30,000 non-deductible IRA (to which she s contributed $25,000) AND a $220,000 Rollover IRA (it was funded with the 401(k) from her former employer pre-tax dollars). She wants to convert the non-deductible IRA, as she thinks she ll only pay tax on the $5,000 gain in the account. But her basis applies to BOTH accounts, and is 10%: $25,000/[$30,000 plus $220,000] If Sally converts her non-deductible IRA, only 10% ($3,000) of it will be tax-free, and the other 90% ($27,000) will be taxable Deutsche Asset & Wealth Management 10

16 Can the tax dollars be paid from the new Roth IRA? Yes, if the person converting is over 59 ½ (even though the new account is supposed to be left alone for 5 years) No, if the person converting is under 59 ½ -- the withdrawal will be subject to a 10% early withdrawal penalty Deutsche Asset & Wealth Management 11

17 So what s the bottom line? Unless a person is on either end of the barbell (little tax consequence on converting OR very wealthy and doesn t need the IRA), conversion can be a difficult, fact-intensive inquiry Important factors are: What s the taxable amount on conversion? Are there available dollars to pay the tax? What s the opportunity cost of the tax dollars? (longevity of person converting) Deutsche Asset & Wealth Management 12

18 One more thought Converting is not an all-or-nothing proposition: It s possible to convert some, but not all, of the account Converting can be similar to an asset allocation decision: Even if the tax dollars are available, there may be reluctance to spend them If PART of the account is converted, then it becomes more like a long-term investment: it s there if you need it, but you don t have to touch it if you don t want to Deutsche Asset & Wealth Management 13

19 P.S. Can a conversion be undone? Yes, assuming the taxpayer recharacterizes the Roth on or before the deadline for filing her 2013 taxes (including extensions) To re-convert the traditional IRA to a Roth, the taxpayer must wait until the later of the tax year following the recharacterization or 30 days from recharacterization. Next time, the taxpayer might consider converting the separate assets of her traditional IRA to separate Roths (e.g., 100 shares of ABC Corp into Roth 1, and 100 shares of XYZ Corp into Roth 2) Deutsche Asset & Wealth Management 14

20 Designations of Beneficiaries and Related Traps 2008 Venable LLP 1

21 Basics of Inherited Accounts Distribution Rules for Inherited Accounts Beneficiary Death Before RBD Death After RBD Participant s spouse Spouse s life expectancy, but check terms of plan. Spouse is not required to begin taking benefits until the later of the year after the participant s death or the year in which the participant would have turned 70 ½ Longer of participant s life expectancy or spouse s life expectancy Individual Charity, estate, other nonindividual, including a nonsee-through trust RBD = required beginning date Individual s life expectancy, but check terms of plan All benefits distributed no later than 12/31 of the year including the fifth anniversary of participant s death Longer of participant s life expectancy or individual s life expectancy Participant s life expectancy For a Traditional IRA, RBD is 4/1 of the year after which the participant turned 70 ½. For a qualified plan, RBD may be different, depending on the terms of the plan and whether the participant is still employed with that employer and is a 5% owner of the employer Venable LLP

22 Basics of Inherited Accounts Surviving Spouse s Option to Roll the Account Over The surviving spouse usually has the option to roll the participant s plan over to another retirement plan, enabling her to treat the plan as her own. When should the surviving spouse consider a rollover? The surviving spouse has other financial resources to live on. With a rollover, the money can continue to grow on a tax-deferred basis until the surviving spouse s own required beginning date. With a rollover, the surviving spouse can use a different life expectancy table that will allow the benefits to be stretched over a longer period. It is important to the surviving spouse that her own beneficiary be able to stretch the benefits over his or her own life expectancy. The plan s only payment option for a beneficiary is a lump sum. When should the surviving spouse consider the stretch option? Surviving spouse is under age 59 ½ and has immediate need for the money Venable LLP

23 Beneficiary Designations Using the Plan Administrator s Beneficiary Designation Form It is usually the simplest to name one or more individuals or charities as the beneficiary using the plan administrator s beneficiary designation form. Depending on the time of retirement plan, the participant may need the spouse s consent if he names anyone other than his spouse. Children versus descendants, per stirpes. The estate is rarely the appropriate beneficiary Venable LLP

24 Beneficiary Designations Writing Your Own In special circumstances, the client s situation may require you to draft your own Beneficiary Designation Form. Client wishes to leave a sum certain to a beneficiary. Client wishes to name a trust as the beneficiary. Warn your client that some plan administrators may not accept the form or may request changes. Consider providing the plan administrator with a draft before having the client sign. Ask for the plan administrator to acknowledge receipt Venable LLP

25 Beneficiary Designations Pecuniary Bequest A participant may wish to name an individual or nonindividual as beneficiary of a pecuniary amount. In this situation, restate the pecuniary amount as a formula: Example: X shall be the beneficiary of a portion of the death benefit determined by multiplying the death benefit by a fraction. The numerator of the fraction shall be $10,000 and the denominator of the fraction shall be the value of the death benefit as of the date of my death. Makes it easier to obtain separate accounts status Example: P wishes to name Charity as beneficiary of $100k of his IRA, with the rest to be split between his two children. If the $100k is not distributed to Charity by September 30 of the year following P s death, the separate accounts rule will not apply Venable LLP

26 Beneficiary Designations Trust as Beneficiary Possible reasons a participant may wish to leave plan benefits to a trust Fund credit shelter amount Immature beneficiary Special needs beneficiary Creditor concerns Client will need to balance tax and other considerations Venable LLP

27 Beneficiary Designations See-Through Trust If stretch payments are important, the participant will want the trust to qualify as a see -through trust. Qualifications for see through trust status: Valid under state law. Trust is irrevocable or will become irrevocable on the participant s death. Beneficiaries are identifiable from the trust instrument. It must be possible to identify the oldest beneficiary. Beneficiaries are all individuals. Certain information is provided to the plan administrator Venable LLP

28 Beneficiary Designations Conduit Trust Direct the Trustee to distribute all plan distributions to the beneficiary. This is a type of see-through trust. Advantage: Income tax efficient Disadvantages: Not optimal from a planning standpoint if the client does not want the beneficiary to receive all plan distributions automatically. If the beneficiary lives a normal life expectancy, very few, if any, of the plan assets will remain in trust for the remainder beneficiaries. The Trustee must be careful to pay plan distributions out to the beneficiary upon receipt Venable LLP

29 Beneficiary Designations Accumulation Trust with Living Remainder Beneficiary Allow the Trustee to accumulate plan distributions. Advantages: May be a good option if the beneficiary has special needs or creditor problems Plan assets may be available for remainder beneficiaries Stretch treatment may be available in certain circumstances. For example, if the trust is for the benefit of Child and two Grandchildren, Grandchildren will receive the trust assets outright at Child s death, and the Grandchildren are in fact alive at the participant s death, there is no need to continue looking down the line for additional beneficiaries. Child s life expectancy will determine the RMDs. Disadvantages Depending on the facts, stretch treatment might not be available. In that case, this strategy would be inefficient from an income tax standpoint Venable LLP

30 Beneficiary Designations QTIP Trust as Beneficiary Basic requirements for a QTIP-Conduit Trust Require trustee to withdraw the greater of the income or the RMD Require trustee to distribute all amounts withdrawn to the spouse Drawbacks May require faster distribution of benefits (stretch rather than rollover treatment) Distributions to the trust are taxable to the to the trust unless distributed to spouse Must meet technical requirements Beware of your funding formula. Use a fractional formula instead of a pecuniary formula Venable LLP

31 Beneficiary Designations Final Thoughts When naming a trust as beneficiary: When possible, name the sub-trust, not the parent trust, as beneficiary. Example: Trust administered fbo Paul Smith under Item Fourth of the Jane Smith Revocable Trust Agreement not Jane Smith Revocable Trust Agreement Put the dispositive language in the trust, not the beneficiary designation form Every time the trust is modified, consider the effect on beneficiary designations Consider the separate accounts rules Give the plan administrator as much direction as possible Stretching the distributions over a beneficiary s lifetime may not be the most important consideration Venable LLP

32 contact information Ashley C. Short, Esquire Venable, LLP 750 E. Pratt Street, Suite 900 Baltimore, MD Venable LLP

Circular 230 and Disclaimer 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

33 Circular 230 and Disclaimer 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. For discussion purposes only. This work is intended to provide general information about the tax and other laws applicable to retirement benefits. The author, her firm or anyone forwarding or reproducing this work shall have neither liability nor responsibility to any person or entity with respect to any loss or damage caused, or alleged to be caused, directly or indirectly by the information contained in this work. This work does not represent tax, accounting, or legal advice. The individual taxpayer is advised to and should rely on his, her, or its own advisors Venable LLP

ESTATE & TRUST PLANNING WITH THE NEW 3.8% TAX ON NET INVESTMENT INCOME

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