Smart ways of leaving your IRA to your heirs

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Prepare a smooth transition of your assets to your heirs
Create a strategy that not only serves you throughout your retirement but also helps protect the inheritance of future generations.
From the Merrill Edge Minute e-newsletter.

Key points

  • Because of special rules surrounding the inheritance of IRAs, they can be a particularly valuable way to leave assets to your heirs
  • With a multigenerational approach, you can maintain greater control of your assets during your lifetime and beyond and possibly do so in a tax-efficient way
  • Leaving a Traditional IRA or a Roth IRA to a younger beneficiary may provide them with both an inheritance and the potential for the assets to grow on a tax-favored basis
  • Use our Roth IRA Conversion Calculator to see if converting to a Roth IRA is right for you
IRAs are designed with a specific goal — to provide an additional income stream that will be available during retirement. But what happens if there are still funds left in your account after you're gone?
Having a strategy that includes clearly designated IRA beneficiaries can help them avoid probate court proceedings that can be time-consuming and costly. As you consult with your tax and estate advisors to create an estate plan that both accomplishes your wishes and helps protect your heirs' inheritance, here are three strategies that can help you pass IRA assets to your heirs.

With a multigenerational IRA strategy, money has the potential to continue growing over time and also to provide income to your beneficiaries.

— Debra Greenberg, director,
Personal Retirement Solutions,
Bank of America Merrill Lynch

1. Maximize the value of your IRA by giving it to a younger family member

You've probably already named one beneficiary (or more) to your IRA — your account provider will most likely have required it. But you're generally free to change beneficiaries at any time, and you can name several for one account. That gives you the flexibility to consider naming a child or grandchild — or a niece or nephew — instead of, or in addition to, your spouse or partner.
"With a multigenerational IRA strategy, money has the potential to continue growing over time and also to provide income to your beneficiaries," says Debra Greenberg, director, Personal Retirement Solutions, Bank of America Merrill Lynch. "By stretching out the life of the IRA, any growth your investments experience can compound for many more years."
Your young beneficiaries usually will start receiving income from the IRA shortly after your death, because when an IRA is inherited the recipient generally must take Required Minimum Distributions (RMDs) every year. But for the most part they get to do so based on their longer life expectancy, so their annual withdrawals will be small compared with an older IRA beneficiary's required distributions. As a result, the assets in the IRA have more time for potential tax-favored growth. This strategy should be carefully coordinated with your overall estate plan.Footnote 1
Calculating a required minimum distribution
Source: Merrill Edge, 2017

2. Convert to a Roth IRA

If you don't expect to tap your Traditional IRA during your retirement, you could swap it for a Roth IRA. Then when you pass the Roth IRA on to your beneficiaries, they'll be able to take federally tax-free distributions from the inherited account, often throughout their lifetimes.Footnote 2
Another advantage: "With a Roth IRA, there are no required minimum distributions for you," Greenberg notes. You can leave it intact, with the account assets benefiting from any compound growth for as long as you live. "Upon your passing, the entire Roth IRA would go to your named beneficiaries, but at that time it would be subject to RMD requirements," Greenberg says.
A Roth IRA conversion isn't right for everyone. You'll generally have to pay income tax on the value of any previously untaxed Traditional IRA assets you convert — whether that outlay makes financial sense depends in part on how long you expect to live. By converting as early as possible and setting aside funds to pay the taxes, you have the potential to maximize the tax benefit to future generations.

It [a trusteed IRA] allows you to support your own retirement income goals while offering the potential for future generations to enjoy tax-free or tax-deferred growth.

— Mark Newcomb,
director, National Fiduciary IRA Executive, U.S. Trust

3. Use a trusteed IRA

This is a single, professionally-managed account that offers the tax benefits of an IRA together with the wealth transfer and control features of a trust. "It allows you to support your own retirement income goals while offering the potential for future generations to enjoy tax-free or tax-deferred growth," notes Mark Newcomb, director, national fiduciary IRA executive, U.S. Trust.
Most commonly, you create a trusteed IRA by transferring or rolling over an existing IRA, or by rolling over assets from a 401(k) or other qualified plan.Footnote 3 With this kind of IRA, you can limit distributions to the required minimum amount in order to make the most of the tax benefits for your beneficiaries. A trusteed IRA can also help you implement a "stretch IRA" strategy — a way of "stretching" the IRA by naming children, grandchildren or even great-grandchildren as beneficiaries.
By using a trusteed IRA, you can make distributions that help you meet your specific estate planning goals, such as providing a comfortable life for your spouse, but making sure any unused assets are distributed to your children or grandchildren. You can also calculate and make any required minimum distributions (RMDs) and additional withdrawals to pay bills should you or your heirs become incapacitated.
Using any of these three strategies, you could use your IRA to provide tax-deferred income (or federal tax-free income, if received in a qualified distribution from a Roth IRA) and growth potential for years to come. Perhaps even better, knowing that the future is accounted for can allow you to relax and enjoy the present — and the time you spend with those you love — all the more.
Next steps

1 As an alternative, the individual can leave the IRA to the spouse who can then name the children — or other young heirs — as beneficiaries.

2 For a distribution from a Roth IRA to be federal (and possibly state) income-tax-free, it must be qualified. A qualified distribution from your Roth IRA may be made after a five-year waiting period has been satisfied (this period begins January 1 of the tax year of the first contribution or the year of conversion to any Roth IRA) and you (i) are age 59½ or older; (ii) are disabled; (iii) qualify for a special purpose distribution such as the purchase of a first home (lifetime limit of $10,000); or (iv) are deceased. If you take a nonqualified distribution, any Roth IRA investment returns are subject to regular income taxes, plus a possible 10% additional tax, unless an exception applies. A special provision applies for converted assets. If a withdrawal is made within five years of the conversion, the earnings withdrawn may be subject to income tax, and an additional tax described above and the principal that was originally converted may also be subject to a 10% additional tax, unless an exception applies.

Footnote 3 You have choices for what to do with your employer sponsored retirement plan. Depending on your financial circumstances, needs and goals, you may choose to roll over to an IRA or convert to a Roth IRA, roll over an employer sponsored plan from a prior employer to an employer sponsored plan at your new employer, take a distribution or leave the account where it is. Each choice may offer different investment options and services, fees and expenses, withdrawal options, required minimum distributions, tax treatment and provide different protection from creditors and legal judgments. These are complex choices and should be considered with care. Visit http://www.merrilledge.com/retirement/rollover-ira or call a Merrill Edge rollover specialist at 888.637.3343 for additional information about your choices.

Previously untaxed distributions from a Traditional IRA are subject to ordinary income tax. In addition, a federal 10% additional tax may apply to withdrawals taken before age 59½ unless an exception applies.

Bank of America Merrill Lynch is a marketing name for the Retirement Services businesses of Bank of America Corporation.

U.S. Trust, Bank of America Private Wealth Management operates through Bank of America, N.A. and other subsidiaries of Bank of America Corporation.

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