Estate Planning Options for Retirement Accounts

Jesse Bifulco, Attorney, Camden Maine

This article explores some estate planning options for retirement accounts. We’re focusing on IRAs, 401(k), 403b plans and TSPs or Thrift Savings Plans. The government established IRAs, 401(k), 403b plans and TSPs to provide tax incentives for people to save for retirement. While many people use their IRAs, 401(k), 403b plans and TSPs in retirement to supplement their income, many do not spend the entire balance during their lives. Many people today look upon their retirement savings as something they might leave to their heirs. According to one study on retirement savings, the average retired adult dying in their 90s left behind $283,000 in retirement savings.



This article does not spend any time on the planning options for a surviving spouse. We’ll cover that in another article. This post is intended to give you some information on inherited IRAs that will be held in trust for the benefit of persons other than a surviving spouse. Specifically, we talk about planning issues related to IRAs that are held in a trust for the lifetime of a child or grandchild or other non-spouse beneficiary. Keep in mind this is not the same thing as distributions that go to a child at certain ages. This money is held, for their benefit, under certain terms and conditions.
Every family is unique. Every child is also unique. Some turn out to be big earners. But in many families the ingenuity and energy of a child, while it may result in enormous contributions to the betterment of their communities and the personal lives of the people around them, it may not necessarily translate into income or assets for their own retirement. For parents of children such as those, it is an enticing prospect to supplement their lives materially for all the non-material good they’ve done. Still other beneficiaries, children or grandchildren, are not equipped to manage money. Perhaps they are young or have never managed money before. Or perhaps the child or grandchild is too susceptible to the influence of other people in their lives to get the most out of their inheritance. For some, the pile of cash they inherit in the form of a parent’s retirement account will actually be a danger to them.

person with disability trust

Many people today look upon their retirement savings as something they might leave to their heirs.

So, for those who have retirement money that they intend to leave to their children, what is the best way to do it?
Many parents start off with the idea of giving a gift outright to their kids.


But simply put, there are far better ways to gift – even for retirement accounts.


Let’s talk for a moment about creditor protection.

Never mind the fact that there are so many good reasons not to put money straight into the hands of an heir. If that IRA money is in your kids’ hands, can someone take it away from them? Many people believe that IRAs and retirement accounts have creditor protection. In other words, if you go bankrupt can the creditors take your IRA? Perhaps the IRA owner has creditor protection. But not the inherited IRA beneficiary. In a case called Clark v. Rameker the US Supreme Court decided that funds held in inherited IRAs are not “retirement funds”, and therefore not protected from creditors in bankruptcy.

If creditors can reach your kid’s inherited IRA, is there a way to protect it?

What estate planning tool is used by parents and grandparents to protect the inheritance left to their children and grandchildren? The answer is a trust. Can a trust hold retirement account funds? The answer is a trust can be used as the beneficiary of a retirement account. Why would you use a trust as the beneficiary of a retirement account? The answer is, if you die, and there is money left in your IRA, 401(k), 403b plans or TSP, rather than give it directly to your child, or grandchild, you may want to protect it from their potential creditors. You may want to protect it from their poor judgment, their pushy spouse, or in-laws.

How does it work when you make a trust the beneficiary of your IRA, 401(k), 403b or TSP account?

You need to understand that trusts can be the beneficiary of a retirement account. In turn, your heirs, your children or grandchildren can then be the beneficiary of that trust. In that manner, your intended beneficiary, your child or grandchild will get the benefit of the money. But if they go bankrupt, or get sued, or are the kind of person who cannot manage money, their inheritance won’t be lost.

What is an Accumulation Trust and What is a Conduit Trust?


The IRS has rules about trusts being used to protect IRAs, 401(k), 403b, and TSP accounts. They call these trusts “see through” trusts. The reason is that the beneficiary can be seen through the language of the trust. In other words, to comply with the IRS rules about retirement accounts, these trusts need to be worded very carefully. If they are drafted properly, they will qualify as see through trusts. If they do not, the IRS imposes a penalty. The penalty is expedited withdrawal of all the retirement account money in five years. Why is that a penalty? Because if you are forced to take the IRA money out in five years, your beneficiary will have to pay more in taxes. Also, the money cannot grow tax free while it remains in the account. The usual rule for payout of an inherited IRA or a “see through” trust with an individual beneficiary is a ten-year payout – twice as much than if the trust is defective!

Conduit Trusts

The IRS “conduit trust” is easier to qualify as a see through trust.

How do conduit trusts work?

Basically, during the life of the beneficiary, that beneficiary is the only person entitled to the IRA money that comes out of the trust. The trust is called “conduit” because any money distributed from the IRA to the trust must be immediately distributed to the beneficiary. Under a conduit trust, no IRA proceeds can be accumulated in the trust, and no IRA proceeds can be distributed to any other beneficiary during the primary beneficiary’s lifetime. There is a small benefit to the conduit trust, in that the principal of the IRA, as a trust asset, is protected from potential creditors of the beneficiary. In this example, your children or grandchildren, have some creditor protection for the principal of the account, until the money is distributed. Once the money is distributed, it must be given to the child or grandchild, and then, it is subject to their creditors. Also, it must be taken out entirely within ten years.

What is the problem with the conduit trust?

In our list of concerns, we didn’t want the child or grandchild to get the money automatically. We wanted the money to be held in the trust until it was a good time to distribute the money. Or perhaps, let the child or grandchild decide if and when the money was spent. That way the money would be protected indefinitely from their creditor, bankruptcy, opportunists, or poor judgment.

Enter the accumulation trust.

With an accumulation trust, the trust can hold onto money instead of paying it out immediately to the beneficiary. This kind of trust can even hold the money for multiple generations of beneficiaries – children, grandchildren, and great-grandchildren.

What are the downsides of an accumulation trust?

One downside is that in order to get the ten-year payout, you must be able to identify all beneficiaries including future potential beneficiaries of the trust. Also, those beneficiaries must all be people. They cannot be corporations, or charitable organizations.

When might you consider an accumulation trust for your retirement account?

If you have any of these situations you should consider using an accumulation trust.
• You expect your retirement account to outlive you
• You have people you wish to benefit
• You are concerned about giving beneficiaries unfettered access to the retirement account
• You have a beneficiary who is disabled
• You have a beneficiary who in a high risk or high liability profession, like a surgeon
• You have concerns about a beneficiary’s spouse or in-laws
Estate planning with retirement accounts is a complex issue. Getting it right is typically the product of discovery conversations between you and an estate planning attorney. Sometimes those conversations involve your financial advisor and CPA as well.

The bottom line is, if you know your options you can make a great estate plan. Consider watching out Estate Planning Videos or signing up for a Live Webinar.