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Common IRA mistakes: Part 3

Planning for the future

Posted: September 15, 2008 2:29 p.m.
Updated: November 17, 2008 5:00 a.m.

This is the third and final part in a series of columns about 10 common IRA mistakes.

Naming trusts as beneficiaries of IRAs may become a tax trap. Although it eliminates the spousal IRA option, estate planning attorneys frequently use trusts as beneficiaries of IRAs.

If the trust is not structured properly, however, and does not qualify as a look through trust, the IRA assets will be paid out within five years after the owner passes away. This eliminates the "stretch" option for beneficiaries and results in immediate taxation.

The solution: Make sure your trust will qualify as a look through trust, but also ask your financial professional if the trust is the best recipient to name in the first place.

A beneficiary of an inherited IRA fails to name a successor beneficiary. If no successor beneficiary is named and the primary beneficiary dies, the IRA will distribute to the estate, pass through probate and will result in the loss of "stretch."

The solution: As soon as you inherit an IRA, make sure you name primary and contingent beneficiaries of your own.

Overlooking income tax deductions with respect to inherited IRAs. Potentially large tax deductions can be missed in IRD situations.

Beneficiaries of IRAs often overlook valuable income tax deductions. IRAs are considered to be "Income in Respect of Decedent" (IRD). Therefore, they are generally included in the owner's estate for federal estate tax purposes.

If estate taxes were paid, the beneficiary may have a right to take an income tax deduction equal to the amount of estate taxes attributable to the inherited IRA. It is deductible as a miscellaneous itemized deduction on the beneficiary's schedule A of his or her personal tax return.

The deduction could be quite large but is often overlooked.

Keeping assets in an employer-sponsored plan after retirement. You can lose important benefits by not rolling your assets into an IRA. Many times, individuals will leave their retirement assets in an employer-sponsored plan.

While the assets will continue to receive tax deferral and you still have the same investment options, you may be sacrificing some key planning opportunities. Within the 401(k), your investment options may be limited and your flexibility for estate planning purposes might be constrained.

And few plans offer customized individual advice. Moving retirement assets to an IRA may result in significant tax savings, better investment options and increased estate-planning flexibility.

The solution: Evaluate the benefits of an IRA carefully when deciding whether or not to leave assets in your employer's plan.

Jim Lentini, CLU, ChFC, IAR is president of Lentini Insurance & Investment, located in Santa Clarita. His column represents his own views and not necessarily those of The Signal.


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