Retirement Account Management is a Critical Piece of Your Estate Plan

Many New Jersey residents invest the time, research, and resources necessary to create a detailed and integrated estate plan, but overlook one critical piece: disposition of retirement accounts. When retirement accounts aren’t included in the estate planning process, account holders may leave beneficiaries at risk in ways they’ve never considered. An inherited IRA can end up diverted to a beneficiary’s creditors, or even disqualify a beneficiary from important benefits.

Risks Associated with Inherited Retirement Accounts

Inherited IRAs are Not Protected from Creditors

During the lifetime of the original account holder, an IRA (Individual Retirement Account) is sheltered from creditors. The funds in an IRA can’t be attached to satisfy a legal judgment, and are exempt from liquidation if the account holder files for bankruptcy protection. What many people don’t realize is that when an IRA passes through a will or through intestate succession, those exemptions no longer apply.

That’s because inherited retirement accounts operate differently than retirement accounts held by the original owner. In simplest terms, they’re not structured in a way that encourages saving for retirement and penalizes withdrawals before retirement age. They’re not, in practical effect, retirement accounts anymore—and it was retirement savings the exemption laws intended to protect.

If the beneficiary has outstanding judgments, delinquent student loan debt, large medical bills or other significant liabilities, some or all of the IRA balance could be attached, defeating the intentions of the deceased original owner.

An Inherited IRA May Disqualify a Beneficiary from Important Public Benefits

Aside from vulnerability to creditors, the most significant concern associated with an inherited IRA in New Jersey is the possibility of disqualifying a beneficiary from receiving Medicaid benefits, or creating a large spenddown. The spenddown may require that the beneficiary use most or all of the inherited retirement account funds to pay medical bills before Medicaid will make any payment.

In some situations, this type of inheritance can leave the beneficiary worse off than if he or she had not inherited anything.

Succession Planning for IRA Accounts

Fortunately, a simple solution is available. Designating a trust as the beneficiary for retirement accounts gives you a level of control over the payout of the proceeds that simply designating an individual beneficiary on the account does not. The trust may be created specifically for the purpose of holding retirement accounts, or you may opt to use a trust to pass all of your property to beneficiaries.

We’ve previously described how the use of a special needs trust can protect a beneficiary’s access to benefits such as Medicaid while still allowing the grantor to provide some assistance to the beneficiary. Similarly, trust terms can be written in such a way that the asset will be protected from beneficiaries’ creditors.

Protecting an Inherited IRA from Creditors

With a properly constructed trust, the grantor can ensure that assets placed in the trust, including retirement accounts, are not accessible by creditors of the beneficiaries.

First, by retaining the asset within the trust, the grantor ensures that the asset itself is not accessible to creditors. However, any portion of trust asset—in this case, an IRA—that is distributed directly to the beneficiary loses protection against creditors. Therefore, the trust terms regarding distributions are critical.

For example, the terms of many trusts include mandatory distributions on a monthly or annual basis, or based on a triggering event such as the 25^th birthday or upon marriage. Since the trustee has no discretion regarding those distributions, they must be paid out on schedule and are vulnerable to attachment by creditors unless other exemptions apply.

On the other hand, if the trustee has discretion to determine whether and when to make distributions, he or she can simply opt not to make distributions that would be subject to attachment. The trustee may also, if the trust terms allow it, make direct payments that do not result in the transfer of an attachable asset. For example, the trustee could pay the beneficiary’s rent rather than making a cash distribution.

An Experienced Estate Planning Lawyer Can Be Your Most Important Asset

A trust can be a powerful tool in protecting retirement accounts for your heirs. However, creating effective protections requires a solid understanding of the intricacies of trusts and estates, as well as the laws governing debt collection. An attorney who is experienced in the use of trusts to protect retirement accounts can explain your options and help you choose the best approach for your family.

If you’re ready to take the next step toward fully protecting your heirs, call us today at (201) 380-2000.