New Planning Opportunities for Inherited IRAs

The impact of the SECURE Act of 2019 has created a game change for high-net-worth clients. The Setting Every Community Up for Retirement (SECURE) Act requires beneficiaries of inherited IRAs to withdraw all assets of the IRA account within 10 years in most cases. This can create a significant income event resulting in giving back most of the income tax benefits accumulated over the years. Additionally, post-death control and resulting lack of asset protection is greatly minimized.

Previously, inherited IRAs could be distributed over the life expectancy of the designated beneficiaries. In many cases, the beneficiaries were children or grandchildren of the IRA owner that meant distributions, and the income taxes on those distributions, could be potentially spread out over several decades. This strategy was commonly referred to as the “stretch IRA” technique. No more; now that stretch-out is limited to just 10 years.

Certain beneficiaries are exempt from the 10-year rule:

• Spouses
• Minor aged children until age 18
• Chronically ill and disabled children
• Beneficiaries no more than 10 years younger than the IRA owner

This is a dramatic change that will create a need for alternative planning strategies to transfer wealth to future generations on a tax efficient basis. Additionally, there is loss asset protection when beneficiaries take ownership of IRA assets after the 10 years. The lack of post–death control means the assets will now be subject to creditors, divorce, and ill-advised decisions.

Post–death control is a high priority for high-net-worth clients. They want to be sure these assets end up with the intended beneficiaries of their choosing.

Consequently, there is now a need for Plan B to manage the income tax and asset protection implications of this dramatic change in the regulations.

Some of the common strategies being considered are

• Roth Conversions
• Reviewing IRA Trusts & Beneficiaries

Roth conversions provide a trade-off for paying income tax now and receiving the proceeds income tax–free later. The asset, however, will still be owned outright by the beneficiaries without additional planning. It will still also be included their estate; this becomes more relevant as estate taxes are expected to increase while the estate tax threshold is expected to decrease.

IRA trusts, however, provide asset protection benefits that do not address the significant income tax event that occurs at the end of the 10-year period.

Other Techniques Available to Mimic the Stretch IRA

There are two techniques that can mimic the Stretch IRA. They also have potential income-tax, estate-tax and asset protection advantages over the traditional “stretch” concept.

Alternative Technique #1: Modified Roth Conversion:

Below is a study comparing a more traditional approach clients take by differing growth then taking required minimum distributions (RMDs) at age 72 to life expectancy, passing the remaining balance to their beneficiaries at age 95.

In an alternative technique referred to as a “modified Roth conversion,” the after-tax proceeds are reallocated to an income tax efficient plan using life insurance over a 10 year period. Alternative periods can also be used.?The policy is owned inside an irrevocable life insurance trust (ILIT), allowing the proceeds to pass income and estate tax-free.?Using the ILIT enables this technique to mimic the traditional “stretch” strategy.

Attached are two hypothetical scenarios based on a $3,000,000 IRA illustrating?the?following:

• A more traditional approach of taking RMDs from an IRA from age 72 to 95 vs??
• An IRA paydown over 10 years at age 60 funding an?income tax efficient account through a whole life survivorship?insurance policy:?

?Scenario #1

Traditional IRA?

Total?Income Taxes: $3,787,498

Net Account Value @ age 95:?$1,234,888?

Income Received?(net): $3,394,277??

Legacy Value: $1,234,888

Scenario #2?

?IRA Paydown

?Total?Income Taxes: $1,600,411

Net Account Value @ age 95:?$4,652,834

Income Received?(net): -$0-

Legacy Value: $5,867,288

Note: Assets grow @ 4%; 45% tax rate?

Summary Points:

• Over 50% less paid?in?income taxes;?tax savings over $2m…in the client’s lifetime.?
• Over 25% more assets passed on to next generations?outside the estate??
• More protection from creditors, divorce, bad?investment decisions and other potential unexpected wealth eroding events.?

For those clients who cringe when “life insurance” is mentioned as part of the solution … consider calling it something else!

See attached cash flow design for year-to-year detail.

Alternative Technique #2: Charitable Remainder Trust Coupled with Asset Replacement Trust:

The other more comprehensive technique is catered to those who have some charitable intent. This strategy?mimics the traditional “stretch” two ways:?through using a charitable remainder trust (CRT) and a wealth replacement trust (WRT).

Using this approach, the donor names a CRT as beneficiary of an IRA, which converts the assets to pay an income stream to the child beneficiary of the CRT for a specified period of time (maximum period, 20 years). When the CRT terminates, the assets pass to the charity. Then, through the use of an ILIT, the life insurance replaces assets that don’t pass to the donor’s children or grandchildren due to the use of the CRT, where the assets are ultimately passed.

The client can substantially mitigate most of the income taxes typically paid on these assets, other than the CRT distributions, making this an extremely tax efficient strategy to pass assets. Additionally, the client receives an estate tax deduction for the remainder interest passing to the charity, adding to the tax benefits of this technique. However, the client may object to this strategy because their family is being “disinherited” by the charity receiving the IRA proceeds; that’s where the wealth replacement trust comes in.

While alive, the IRA owner may use some IRA distributions or other assets to fund the irrevocable life insurance trust to pay the policy premiums. In addition, or alternatively, the child can use some or all of the CRT income stream to fund the ILIT to pay premiums. For example, if a donor would normally have left an IRA to grandchildren—which is no longer advantageous under the SECURE Act due to the 10-year rule, or the donor would expect under the old “stretch IRA” rules that there would be IRA money left at the child’s death that would go to grandchildren—the donor can leave the IRA to a CRT at death, and the child beneficiary of the CRT can fund an ILIT that owns a life insurance policy on the child that will benefit the grandchildren when the child dies and the remaining assets in the CRT will pass to charity and not to the grandchildren.

See the below flow chart

Planning Abstract:

Below is the summary of the two techniques that can mimic the traditional stretch IRA strategies for the high-net-worth clientele—meaning,?having enough other assets to live on,?they will pass on the higher taxed qualified plan or IRA accounts to future generations for legacy planning.

Two Techniques:

• One strategy caters to those with charitable?intent?
• The?other strategy caters to those who do not have charitable?interests—also referred to as a “modified Roth conversion.”

CRT w/WRT:

The CRT and WRT strategy provide?“two?stretch" opportunities for the client.

• Client receives income and estate tax benefits passing taxable assets to charities.
• Can benefit?multiple?generations not available under the new regs.
• The family is kept whole by funding the WRT.

Tax Benefit Summary of "Modified ROTH Conversion" Technique:

• Significant?income tax benefits compared to the traditional approach, starting RMDs at age 72
• The life insurance proceeds paid to the life insurance trust are received?income and estate tax free.?
• The insurance trust recreates the stretch IRA technique, benefitting generations beyond 10 years for multiple generations. Asset protection is maintained throughout.
• Trust assets remain outside the estate and any future estate taxes.
• Income distributed to beneficiaries from the trust can also be received income tax free.

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Kenneth A. Horowitz, CLU, ChFC, RICP,?entered the financial services and life insurance business in 1989 after a short career in the commercial real estate finance business with a leading NYC based commercial bank.?He became affiliated with the Guardian Life Insurance Company of America, New York, NY as a Field Representative with the Compain Anderson Group and went on to qualify for the company’s prestigious Awards Club for many years.?After merging with another NYC based Guardian agency in 2000, Strategies for Wealth, Ken’s services grew more comprehensive by providing clients a distinct financial planning process.?His commitment to the financial services business is exemplified by qualifying as a Chartered Life Underwriter (CLU), a Chartered Financial Consultant (ChFC), Retirement Income Certified Planner (RICP), as well as earning a Series 7. Ken’s specialization includes helping accountants deliver more value to their clients by offering more proactive and holistic strategic planning services.?He has also given his time to help various charitable and local organizations.?Some of his affiliations include: Board member and President of the Bergen County, N.J. Estate Planning Council; Head of the N.J. Chapter of Hofstra University Alumni Association; Executive Board Member of Albert Einstein College of Medicine; Penn State Parents Association; Y-JCC of Bergen County Board member; The Loomis-Chafee Alumni Association; and member and coach of the Woodcliff Lake Basketball Association.

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Registered Representative and Financial Advisor of Park Avenue Securities LLC (PAS). Securities products and advisory services offered through PAS, member FINRA, SIPC. Financial Representative of The Guardian Life Insurance Company of America? (Guardian), New York, NY. PAS is a wholly owned subsidiary of Guardian. Integrated Benefit Consultants is not an affiliate or subsidiary of PAS or Guardian.?CA insurance license # 0C37308. The information in this presentation is designed to be general in nature and for educational purposes only.?All scenarios mentioned herein are purely fictional and have been created solely for training purposes. Any resemblance to existing situations, persons or fictional characters is coincidental. The information presented should not be used as the basis for any specific investment advice. The Guardian Life Insurance Company of America, its subsidiaries, agents, and employees do not give tax, legal, or accounting advice.?You should consult their own tax, legal, or accounting advisors regarding their individual situations. 2021-1254436 Exp 08/23