Using Trusts As Beneficiaries

May 9, 2020

On this episode, Karl welcomes guest David Akright, CFP®, CHFC® to the show.  David gives listeners some helpful tips and things to consider when designating beneficiaries on retirement accounts.  Also, David explains when to use a trust as a beneficiary.

Karl Eggerss:                      Hey, good morning. Welcome to the podcast. My name is Karl Eggerss. Thanks for joining me, we appreciate it. As always, if you’d like to get a hold of us for anything, (210) 526-0057, or visit our website, creatingricherlives.com and we can help you out. And I said anything, not anything, but primarily in the financial realm. Again, if you’re looking to get a second opinion on something, or really see if somebody can help you take some of the burden off of you of financial management, whether it’s planning, whether you have questions about “should I retire?” I had somebody ask me this week about taking an early retirement package that the company is offering them, and we’re probably going to see a lot more of those scenarios in the next few months. And so those are things we can help evaluate, play devil’s advocate sometimes, look at both options, and come up with a great game plan for you.

Karl Eggerss:                      So again, (210) 526-0057 or creatingricherlives.com and the show is brought to you by Covenant. Lifestyle. Legacy. Philanthropy. And speaking of covenant, I have one of Covenant’s rising stars. David Akright is a wealth advisor at Covenant. He’s going to be joining me in the next few minutes to talk about should you have a trust as a beneficiary and he’s going to give some other tips regarding things to think about on your retirement accounts when it comes to listing beneficiaries. When’s the last time he even checked that? He’s going to talk to us about that and when to use trust. So a very important topic coming up. He was on the podcast I believe late last year and we were talking about the Secure Act and at that time it was being tossed around and he was helping us out through that. So I’ve invited him back on the podcast so we will get to him in just one minute.

Karl Eggerss:                      Let’s talk about the markets. We had another news driven week, not surprising. The market ended the week on a really good note. The Dow Jones was up somewhere around 450 points on Friday and really the market has been, the few weeks, there’s been times where it looked like it was about to roll over, right? Everybody was saying, okay, surely it can’t go up any more. Right? It can’t go up anymore and it has to go back and either test the lows or at least pull back and yet we get two or three days like that. And then the buyers step up once again. And what’s ironic about this whole rally is every time we’ve had some really bad news on the employment front, that day, the stock market seems to rally. Friday we found out that in April there were 20.5 million people who lost their jobs and the unemployment rate is 14% some believe the unemployment rate could be as high as 20% right now.

Karl Eggerss:                      And yet the Dow Jones finishes up over 450 points on Friday. So, you know, again, it’s a very important fact that the stock market is different than the economy. And sometimes markets rally on bad news because again, they’re looking forward. Most of us, are looking at the news, we’re looking at data and we think the markets are moving in real time and they’re not. They’re usually ahead of where we are. And so we may get some indication in a few weeks from now, things may be better than we thought. And again, that’s not that the market is some, a fortune teller, but it just has an uncanny way, stock prices do, of moving in anticipation of news events. So Monday market was down, but really battled back, finished in the green, and we talked about this, I think last week that look, we started to see more trade tension with China.

Karl Eggerss:                      That sparked up again, we started to see the cases of COVID plateauing instead of falling. And the market started to struggle a little bit. And what we saw, as the week went on, was the numbers are plateauing, but if you look at the people that are testing positive, it’s going down. In other words, the number of tests are also being increased. So of course when you increase testing, you’re going to increase the number of people that have the Corona virus, right? It’s just, so that’s why I think the numbers are moving sideways. And I think Wall Street’s maybe looking past that this week, but late in the week, we did see China and the U S were agreeing to cooperate. They were going to try to implement this trade deal and that certainly gave a boost on Friday. During the week, we saw a few different interesting things.

Karl Eggerss:                      The BlackRock CEO, Larry Fink, he said the U.S. is going to have to raise the corporate tax rate to fund the stimulus. And he had some bearish comments for the most part. And we saw this theme most of the week at Tuesday and Wednesday, a little bit on Thursday where the market would gap up and then the rally would fade in and we’d end up down or slightly negative on the day. And it was almost as if we were getting a little tired, kind of moving sideways. And again, I’ve said the past few weeks, if we move sideways, that’s not the worst thing in the world for this market to digest, we’ll call it, some of these big, big gains that we’ve seen. We also saw this week that the volatility index is at the lowest level it’s been since late February and that’s a good thing cause again, we’re getting volatility comes down.

Karl Eggerss:                      That means the daily moves we see in the markets aren’t as big, which calms people’s nerves. The other thing we saw this week was we now have 33 million people filing for unemployment, which coincides with what we saw on Friday, which was over 20 million people filing or lost their jobs in April. But here’s another interesting fact this week the NASDAQ is up on the year. It’s up now it makes sense, a little bit, that technology-led NASDAQ is green on the year because technology is really what’s getting us through this, as I’ve said before, from entertainment to work and everything in between. So it kind of makes sense, but it’s pretty amazing to think that the NASDAQ is actually up on the year. Another little weird wrinkle this week was Paul Tudor Jones buying Bitcoin as a hedge against inflation, and we’re going to spend some time over the next few weeks talking about this because you know he’s protecting against inflation.

Karl Eggerss:                      Is that something that is going to happen today? A week from now? Is he anticipating it happens five years from now? We don’t know. If you go back to 2008, we didn’t see inflation. Everybody thought the same thing happened in ’08 that’s happening and now whereas we had an economic crisis, the FED comes in, prints a lot of money, stimulates the economy, all kinds of tarp and all kinds of plans and it never led to inflation. Inflation has been very, very low, much lower than anticipated. Why would it be any different this time? But Paul Tudor Jones, one of the best traders of all time, is buying Bitcoin and so you see you saw Bitcoin have a little pop this week and it’s been on a little run. Now it did sell off Friday, it’s probably over bought for you short-term traders.

Karl Eggerss:                      If you look at some charts you’ll see what I’m looking at, but it’s had a big, big move and that is the common question. Is inflation going to rear its ugly head? And we don’t believe that will in a short term, but I don’t think anybody would disagree that on the long term it’s an issue. And you have to think about that as an investor.

Karl Eggerss:                      And we’re going to spend some time over the next few weeks diving into this because it’s a very important topic. How do you, as an investor right now, allocate your money when inflation is low, but could be a problem later? Commodities have been awful the last few years. Or is it time for those? What do you do about bonds? Bonds have performed extremely well, much, much better than most thought. But now here we are with the two year treasury yield almost zero again and yields have been pulled down this week. So what are your expectations for bonds going forward? Is that why the market’s going up so much? The stock market? Is it because people are saying, ”

Karl Eggerss:                      I can’t get good bond returns going forward, and therefore I have to take on more risk? That’s something we’re going to talk about the next few, because it’s extremely important, the asset allocation part of your financial life. It’s probably going to be more important than ever in the next 10 years, especially given what we’ve been going through. All right, so that wraps up full synopsis for this week.

Karl Eggerss:                      All right, as I mentioned, we have David Akright with us today. He’s one of Covenant’s wealth advisors. He is a CFP and a CHFC. And essentially, David helps clients develop investment strategies, planning strategies, to really accomplish their lifetime goals, whether it’s investment, income tax, philanthropic solutions. And I brought him in today because this is a good time of the year to be checking a lot of things regarding your finances. And one of those is beneficiaries. And most people think, “Well, I’ll just put my spouse down and then after that, I’ll let whoever else figure it out.”

Karl Eggerss:                      Well, you need to have a little more intentionality with it, a little more thought around it. And David is going to provide us with some things to think about, of ways to set up beneficiaries. And not just individuals, but maybe some entities can be your beneficiaries. David, welcome back to the podcast. This is not your first time.

David Akright:                   Yeah, appreciate it Karl. How you doing?

Karl Eggerss:                      Good. So you and I had a discussion offline, and you had brought up some excellent points about different people or entities that can be a beneficiary. And we’re talking about retirement accounts primarily, right? We’re talking about 401Ks and IRAs, is primarily what we’re talking about here?

David Akright:                   That’s right, yeah. And beneficiaries are super important to ensure that you have them correct, because as you know, but maybe others don’t, beneficiary designations will supersede what’s in your will. So if you have a beneficiary listed on your account and it isn’t in line with what you really want within your will, it’s still going to go by what you have listed as your beneficiary. So it’s super important that you have that up to date, that you know who those assets are going to be passing to within those retirement accounts.

Karl Eggerss:                      Yeah, that’s an excellent point, and I think most people may not know that. You don’t have to put a beneficiary on. A lot of places don’t require it, but it’s a great way to do it. I would encourage everybody that while we’re staying at home, while we’ve got a little more time on our hands, go through and review your beneficiaries. That is something we do at Covenant on a regular basis for our clients. Just this past week, I had a client that had a beneficiary where she had left a sibling because her child was not old enough. Well, now the child is 21 years old, so they needed to change that. I also had a client who unfortunately was a widow and still had her husband listed as the primary beneficiary. Brought it to her attention. We changed that. So I would use this time to do that.

Karl Eggerss:                      What you and I are going to talk about today is before you go and change it, what are some things to think about? What are some options, in terms of types of beneficiaries? So one of the things that you had brought up to me, and I think we should start with first, because this is a really important one, is having a trust as a beneficiary. And my question for you is number one: Do you have to have a trust already established? Is this only for super wealthy folks? And thirdly, why would you have a trust as a beneficiary, as opposed to a human being?

David Akright:                   Yeah, great questions all around. Your first question, which is can you have a trust? Or does the trust already need be established? The answer to that is no. You don’t necessarily have to have a trust already created. You can have what’s called a testamentary trust, which is where this trust is created when you pass away. And it’s actually language that’s within your will, that while it’s not an active trust today, it’s created at your death.

Karl Eggerss:                      Got you. So it’s created at your death, and we won’t get into necessarily a specific titling, but the titling of the beneficiary would say something to that effect. So again, you may not need a trust now, but you may want something to kick in and be established at your death. The will would do that, but the IRA beneficiary would state that.

David Akright:                   That’s exactly right. That’s exactly right. And then your second question: Is this for the ultra wealthy? Absolutely not. I know the general consensus around trust is that it’s for the ultra high net worth. That doesn’t apply to me. That’s just a tool to get money within trust for the next generation. But the actual truth of the matter is, for a lot of Americans, they’re doing most of their retirement savings within their 401Ks, within their IRA accounts. That’s where they’re accumulating a lot of their retirement savings. And when you pass away, like we mentioned earlier, it’s all about who you have listed as your beneficiaries on those retirement accounts. There may be situations where you don’t necessarily want to leave your son or daughter as the beneficiary to inherit essentially the vast majority of your net worth when you pass away.

David Akright:                   And there could be many reasons for that. The most common ones are maybe that child is irresponsible with money, so they could go spend that money the day you pass away, and that’s something you want to prevent. There could be asset protection or creditor protection reasons. So protecting somebody in the situation of a divorce that’s going on. Or if they’re a business owner and you want to protect that IRA from creditors when they inherited. So there are many reasons why you’d want to have a trust, but it is absolutely not solely for the ultra wealthy, because there may be situations where somebody just … The vast majority of their money is within their retirement account and they want to be sure that it’s passed on to the next generation responsibly.

Karl Eggerss:                      You know, imagine a young person being irresponsible with money!

David Akright:                   Yeah, who would have thought? Yeah. Don’t look at me, I promise.

Karl Eggerss:                      I’m sure I wasn’t. Well, that’s what’s interesting, is that again, when you say, “Do you have a trust?” I think a lot of people out there, and a lot listening, even though our audience is the most sophisticated audience that one could hope for, might think, “Man, that’s only for wealthy people, and that doesn’t apply to me.”

Karl Eggerss:                      Trusts are really also about control. It’s about you being in control when you’re not there, is one particular reason. In this particular case is that a trust is still acting as if you were still alive, making these decisions, and having that control. And it’s really to protect the next generation. It could be to protect how quickly distributions are made out of an IRA to a charity. So again, it is about control, and like you mentioned, about creditor and asset protection. That’s a huge one.

Karl Eggerss:                      So talk us through kind of a little more detail on putting a trust as a beneficiary and some things to consider.

David Akright:                   Yeah, well, I should probably state from the get-go that trusts are very complex vehicles. So we would always recommend talking with your advisor. Talking with an attorney that’s very knowledgeable in this particular area when you are creating a trust, because the last thing you want to do is do something wrong and have it had adverse consequences, more than if you didn’t do anything in the first place.

David Akright:                   So as far as having a trust as a beneficiary, I think it’s probably best to take a step back a little bit and just talk about beneficiaries as a whole. And really, what spurred a lot of this conversation with us just as of late is the Secure Act that passed at the end of 2019. And I know we had spent … I was on your podcast earlier this, or maybe it was last year, when it was still potential legislation that we were talking about this. But it did pass, and probably the biggest effect is how inherited IRAs are treated for certain groups of individuals. And so that’s what really spurred this conversation of “Hey, trust as a beneficiary. While it may have been a good strategy prior to the Secure Act that has changed a little bit and it may not be the most effective tool going forward.”

David Akright:                   Or you may need to tweak that underlying trust that is intended to hold that IRA when you pass away, to ensure that it’s accomplishing what you want it to accomplish.

Karl Eggerss:                      Yeah, so when you think about that, there’s kind of a fork in the road in the types of beneficiaries we’re talking about. And we kind of alluded to it, a human being versus an entity. But what is the more official name, I guess you’d call it?

David Akright:                   Sure, yeah. That’s a great point. And so what the IRS does is they treat inherited IRAs differently, depending on what type or what category of a beneficiary you are. And so that first fork in the road, like you mentioned, is just, is

David Akright:                   Is it a designated beneficiary or is it a non-designated beneficiary? And the best way to describe that as just is it a living person or is it a non-living person? So a living person could be a spouse, it could be a child, sibling, parent. It could be a trust where it qualifies as a see-through trust. So it’s a trust set up for the benefit of a living person. Those qualify as designated beneficiaries as well too. Whereas the non designated beneficiaries are things like charities, estates or trust that it’s very difficult to see who the underlying individual is that that trust is set up for.

David Akright:                   So, that’s that first fork in the road is, is there a life expectancy associated with that living person? If so, it’s a designated beneficiary. If there’s no life expectancy or it’s not an individual person, it’s a non designated beneficiary. And how those are treated after the original IRA owner passes away, is different.

Karl Eggerss:                      So a nonliving entity would be charity, an estate. Again, the ultimate goal is not a human being is basically the fork in the road.

David Akright:                   That’s right. And that may work just fine with some clients in terms of who they want their IRAs to pass to. They may want it to be charity, which oftentimes is a great type of charitable strategy, to leave your IRA to a charitable organization. And so that may work great for some individuals, but just knowing what the consequences are is what’s most important.

Karl Eggerss:                      Got you. So what’s next, after you’ve thought about that and said, “You know what, I don’t either trust this person or I’m a widow or widower and so I don’t have a living person I really want to leave it to. And so therefore, I want to set it up to a non designated beneficiary or non-living entity,” kind of, where does it go from there?

David Akright:                   Yeah. So if it’s a non designated beneficiary, so like we mentioned, it’s not an individual person. There weren’t really any changes from what took place for what it was established before the Secure Act to where we are now. The IRS didn’t really change much as it pertains to that. And the terms of how that inherited IRA is treated, just depends on when the original owner, what their age was when they passed away. If they died before they were taking the annual required minimum distributions, then you have this five year rule, where that IRA just has to be emptied at the end of five years. There’s no annual requirement, just five years after they passed away, it has to be empty.

David Akright:                   If they passed away after they were taking required distributions, the RMDs, then you just take those distributions according to the original owner’s death. So that’s … Go ahead.

Karl Eggerss:                      I was just going to say, and just a reminder that when we’re talking about required minimum distributions, remember the age did change from 70 and a half to 72. So again, even though the non-designated beneficiaries were talking about there was no direct changes from the Secure Act, there could be impact because of what you just stated. Which is, either you have to take up the remaining years or five years, but now we’re talking about a 72 year old, not necessarily somebody that’s 70 and a half.

David Akright:                   Exactly. So that was probably the biggest change as it pertains to non-designated beneficiaries. But relatively speaking, it wasn’t that impactful of a change as it pertains to that group of beneficiaries of retirement accounts.

Karl Eggerss:                      Got you. Okay. So as we kind of keep walking down the thought process here, and we’ve touched on non-designated and how that might work with the five years or remaining on a required minimum distribution basis. Shift back to the designated, which is the people, living people, which is probably what the majority of our audience listening has set up on their IRA. What are some things to think about in that arena?

David Akright:                   Sure, yeah. And like you mentioned, that’s the majority of Americans are leaving it to their heirs or their spouse or their parents, whoever it may be. So this is, for the majority of people, what’s most important. And so before the Secure Act, what happens was, when an IRA owner passed away and left it to a beneficiary as an inherited IRA, that beneficiary was able to stretch their required annual distributions based over their life expectancy.

David Akright:                   So, just as a common example, let’s just say a parent passes away and it’s inherited by their son or daughter who’s in their mid 20s, they are required to take annual distributions based on their life expectancy. So if somebody is in their 20s they’re basically stretching those distributions out over, maybe 50 years. So they’re able to stretch that out over a long period of time.

David Akright:                   And this is what was significantly impacted by the Secure Act is that they basically put another fork in the road, and they being the IRS, and said, “No, there are certain groups where you can continue to do that, continue to take it over your life expectancy. But we’re going to create this new group and those individuals, you are now required to empty that inherited IRA by the end of 10 years.” And so that is really what people should be more attuned to is, if you’re in that group, how are you going to be impacted, and do you need to make any changes today?

Karl Eggerss:                      Yeah. And not to get too in the weeds, but there are eligible people as you mentioned that can take it out over their lifetime. We’re talking about surviving spouse, disability, people that are chronically sick, things of that nature. So again, for the sake of time, there’s some specifics regarding that.

Karl Eggerss:                      So we’ve got the designated, we’ve got the non-designated, as we kind of dive in here for the audience to help make some of those decisions or start thinking about it, we should say, what are some planning tips or some things to think about? And really just some key considerations to try to make this decision about what’s the best way to tackle this, in terms of who’s going to be a beneficiary on my retirement accounts.

David Akright:                   Yeah, that’s a great question. And so, for most individuals where if there’s a married couple or a partnership, if you will, of people that are close to the same age, you would likely have your primary beneficiary be that other person, so not much has necessarily changed there. So the question for a majority of people may be more that contingent beneficiaries. So once the second person passes away, who is it ultimately left to?

David Akright:                   And so some things you have to be thinking about is, I think the most common example is going to be children. And so if you were to pass that IRA to your children, are you comfortable letting them have the full control of that account that theoretically they could distribute all the money the day after you pass away? It would all be taxable to them, but they could go out and spend it on things that they would like.

David Akright:                   If you are comfortable with that, that generally is going to be the most simple approach. You don’t have to worry about creating a trust and the complexities and the costs associated with that. So for a lot of people, that may be the case. If you have adult children, then that could be a great way to go about it; just to keep things simple, let your children inherit it.

Karl Eggerss:                      Well, you bring up an excellent point about this isn’t just about trusting them, which is a big consideration. It’s also about the tax bracket. I mean you’re talking about somebody who has you know, a million $2 million in their IRAs and retirement accounts, you’re talking about all of them. And this child, let’s say it’s one child inherits all of that at one time, they’re automatically in the highest tax bracket. And so there’s also some tax considerations why you may not want to leave it all to one individual at one particular time, carte blanche.

David Akright:                   That’s a great point. And with what happened with the Secure Act where that, in my example earlier, a 25 year old inheriting that IRA account, let’s just say it’s a million dollar IRA that they’re inheriting, they had to take required distributions over a 50 year time period. So that annual amount that they were having to be distributed to themselves and be taxable, was a relatively small amount. It wasn’t throwing them several tax brackets higher, but now that it’s limited to 10 years, that 10 year rule is in that example, by the time that that child is 35 years old, that amount has to be empty. So over the course of that 10 years, they’re going to have an additional million dollars of taxable income that they really have to be fairly smart with. Because there are some planning opportunities of bunching that into certain years or trying to do other types of planning strategies that can reduce the tax impact that they’re going to incur.

Karl Eggerss:                      Yeah, most people aren’t comfortable talking about this with their kids while they’re alive and then may be real private about what they even have, but it’s important that the next generation is educated about this, because the tendency would be to take it all out that first year, get in the highest tax bracket, and like you said, they can stretch it out over 10 years equally or not,

Karl Eggerss:                      Or they can wait until the 10th year and there’s some planning involved. That’s what we help clients do is really figure out, should you take it out in year three based on market conditions, based on your situation? And I think if that planning can happen in advance with the children, it’s much more helpful. And again, you’re talking about somebody who may not be educated about tax brackets, and they just think, “Hey, I was left an IRA. I’m going to take it out and put it in my name.” And that may not be the best thing to do.

David Akright:                   Absolutely.

Karl Eggerss:                      So, as we start winding down here, what are some things to think about from a planning standpoint? Again, everybody’s situation is going to be different. We encourage you to talk to an advisor, talk to an estate planning attorney, et cetera. But what are some things just to think about as you’re contemplating this?

David Akright:                   Yeah, I think the thing that I would recommend that people think about the most is trying to find this balancing act of how much control do you want to have over your retirement account when you pass away versus how much do you want to reduce the cost and complexity. Because there are pros and cons of doing both, but if you have, let’s just say a beneficiary who has spending issues or that you really don’t feel comfortable of them inheriting that big chunk of money, which in some cases could be upwards of a million dollars that they’d be inheriting. If you’re not comfortable with them having it, you’re willing to have those assets be put in a trust potentially at higher tax brackets, potentially not giving them this money upfront, and stretching it over a longer period of time.

David Akright:                   That may make sense for some. Others may say while they may go out and make bad decisions like they probably did for themselves when they were in their mid twenties or mid thirties I’d rather not complicate their situation by having trusts involved, potentially corporate trustees involved, higher taxes because trust tax brackets are higher than individual tax brackets for the most part. And so, that’s just a cost benefit that each individual needs to do on their own just to make sure that they feel comfortable with the decisions that they’re making on their IRA beneficiaries. IRA, retirement account beneficiaries.

Karl Eggerss:                      I don’t know if you can answer this or not. We know there are individuals, we know there are trusts, charities as beneficiaries. I see a lot of people sometimes just say, “My estate.” Good idea, bad idea? Or, do you have a comment on that?

David Akright:                   I generally don’t recommend using your estate as a beneficiary because what happens is it reverses to your will. And if you don’t have a will in place, then it’s up to interstate laws. So, whatever your state laws are, it’s how it’s going to be distributed. If you do have a will in place, there could be adverse complexities that come up when you’re trying to handle retirement account distributions or even just all your assets. I generally would not recommend having your estate listed as a beneficiary. I would try and be a little bit more specific on who your retirement account beneficiary is.

Karl Eggerss:                      That’s great. Appreciate it. Just as we wrap up here, I want to reiterate that this is something that needs to be reviewed, at least annually, to look at your beneficiaries and across, because many people have multiple IRAs. Your spouse has IRAs or, sometimes, blended marriage where you have stepchildren involved, and there are some decisions to be made, and it’s very helpful to start with an advisor who knows your situation and can talk you through what you need. And then, sometimes let the estate planning attorney execute it. You don’t want an overly complicated estate plan, which sometimes, we’ve seen a lot of estate planning attorneys write wills and documents that are very complicated, and they’re not user-friendly. And to your point earlier, they’re very expensive. So having somebody that’s on your side of the table walking alongside of you to say, “Here’s what you need in you all’s situation. Let’s go find somebody to execute it,” is where we generally start. But again, reviewing that early on…

Karl Eggerss:                      And David, obviously, you are here to help anybody that if you need help looking at your situation, you want to talk through that, David is available at Covenant. You can obviously reach out to us at (210) 526-0057, or go to creatingricherlives.com, and we can help review your particular situation. David, thank you very much. That was very helpful. Appreciate it.

David Akright:                   Yeah, thanks very much for having me on, Karl, and look forward to talking to you next time.

Karl Eggerss:                      All right, take care.

David Akright:                   All right.

Karl Eggerss:                      All right. Again, thank you to David Akright for coming in. Hey, just a reminder, creatingricherlives.com, and our telephone number (210) 526-0057. Don’t forget to sign up for Covenant U. If you’re not getting that, all you have to do is text, “Covenant U,” to 22828. Pretty simple. So if you know somebody, and you say, “Hey, you should get their Monday distributions.” It’s got our blogs, podcasts, financial planning strategies, tax planning strategies, and tips, and things like that. Every Monday afternoon, if you want to get that in one consolidated email or you know a friend that does, just tell them, “Text Covenant U,” you just type out Covenant U in the body of the text, and you do it to the phone number of 22828. And that’s it. All you have to do. All right, have a great weekend, everybody. Take care.

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