Retirement Benefits Planning Update

Retirement Benefits Planning Update provides information on developments in the field of retirement benefits law. The editors of Probate & Property welcome information and suggestions from readers.

Naming Trusts or Individuals as Qualified Plan/IRA Beneficiaries

In the case of clients who have substantial assets, most estate planners seek to integrate all of the client’s (or married couple’s) assets into a comprehensive estate plan that will provide for the disposition of those assets through a central vehicle (a revocable trust or will) that, by formula, will allocate the client’s assets among trusts for the client’s surviving spouse and descendants in a manner intended to minimize estate and GST taxes. Often the client’s assets are ultimately to be transferred to continuing trusts for descendants that, by providing for independent trustees with the power to make discretionary trust distributions or by providing ascertainable standards for trust distributions, protect the assets from a descendant’s creditors (including divorcing spouses), shelter the assets from estate tax on a descendant’s death, and provide a coherent plan for transmitting those assets to lower generation beneficiaries. To the extent that the estate plan provides for the separate disposition of specific assets, the estate planner must monitor the value of each asset and know the rules that apply to its disposition to assure that the overall estate plan is not jeopardized.

Qualified Plan and IRA Death Benefits

If qualified plan or IRA benefits are not made payable to a trust, the plan or IRA agreement will control the disposition of these benefits not only upon the participant’s death but also upon the death of any designated individual beneficiary who survives the participant. Most existing plan and IRA agreements (sometimes referred to as "inside trusts") do not include provisions that effectively deal with the dispositive contingencies (such as a beneficiary’s untimely death, an unexpected order of deaths, or a beneficiary’s incapacity) that a client’s "outside trust" covers. Moreover, many agreement beneficiary designation forms do not give the participant the power to determine the successor to a beneficiary who dies after the participant’s death. Absent a customized beneficiary designation, the participant has only the power to name "contingent beneficiaries" who are entitled to receive benefits in the event that all of the "primary beneficiaries" predecease the participant. The chart on page 46 indicates whether or not the currently existing IRA agreements sponsored by a sampling of seven named IRA providers expressly include authority or guidance as to the disposition of benefits in the circumstances indicated or grant the authority to accomplish a desired disposition in an alternative manner.

After the proposed 2001 Treasury regulations that interpret the minimum required distribution (MRD) rules of Code § 401(a)(9) are finalized (probably by April 30, 2002), sponsors will amend qualified plan and IRA agreements. The introduction of the "window period"—the just-over-12-month to just-under-24-month period between the participant’s date of death and the "designation date," the end of the calendar year following the year of death on which a participant’s designated beneficiary is now determined—may prompt the inclusion of more flexible dispositive provisions. It may be expected that more agreements will expressly recognize the ability of a beneficiary to disclaim benefits and provide procedures for establishing separate accounts or subaccounts for differing designated beneficiaries. Timely filed amendments will apparently be effective for 2002, but a review of how the 2001 MRD rules operate under existing agreement provisions may highlight problem areas that the amended agreements will hopefully address.

Revised MRD Rules

Under the revised MRD rules, two basic patterns apply if the participant has a designated beneficiary of plan or IRA benefits (or a separate share of those benefits) on the designation date. If the sole designated beneficiary is not the participant’s surviving spouse (or a conduit trust for the spouse), whether another individual, a group of individuals (which may include the spouse), or the "look-through" oldest beneficiary of a trust (including any nonconduit marital trust), distributions must be made over the fixed life expectancy of the individual (or oldest individual) who is (or is deemed to be) the designated beneficiary.

If the participant’s surviving spouse (or a conduit trust for the spouse) is the sole designated beneficiary, a significant extension of the MRD distribution period may be obtained. Benefits are payable over the spouse’s recalculated life expectancy, and commencement of benefits may be deferred if the participant dies before the required beginning date (RBD). The surviving spouse, if named individually, may also roll the benefits over to the spouse’s own IRA (or simply re-title the participant’s account, in the case of an IRA, in the spouse’s own name) and slow the rate of MRDs during the spouse’s lifetime even further (using the new uniform table for lifetime distributions). By naming younger generation rollover IRA beneficiaries, the spouse may effectively "reload" the life expectancy period upon the spouse’s death to stretch post-death MRDs over the lengthy life expectancies of the named beneficiaries.

Death During the Window Period

If an individual beneficiary named by the participant survives the participant but dies before the designation date, the disposition of the undistributed plan or IRA benefits (or share of benefits) that were payable to the deceased beneficiary will affect the determination of the participant’s designated beneficiary. The proposed regulations provide that the MRD period will be based upon the life expectancy of the oldest designated beneficiary who is living on the designation date. Prop. Reg. § 1.401(a)(9)–5, A7(c)(1) and (2). Under Code § 401(a)(9)(E), a designated beneficiary is an individual designated as beneficiary by a participant, but the 2001 regulations recognize any individual designated as a beneficiary under the plan, either by its terms or, if the plan so provides, by the affirmative election of the participant (or the participant’s surviving spouse). Prop. Reg. § 1.401(a)(9)–4, A-1. If the participant has filed a customized beneficiary designation naming a successor beneficiary or the plan terms provide for a successor beneficiary (either by permitting a beneficiary to appoint a successor beneficiary or by default provision), the successor beneficiary should be considered to be a designated beneficiary named by the participant. Prop. Reg. §1.409(a)(9)–4, A-2.

If there is no agreement provision for a beneficiary to designate successors (or no permitted beneficiary designation is made), most agreements either expressly (or by having no provision, implicitly) provide that the undistributed benefits are payable to the deceased beneficiary’s estate. If a beneficiary dies during the window period under such circumstances, the beneficiary’s estate would become the designated beneficiary on the designation date and, under the 2001 regulations, the MRD period would be determined under the rules that apply if there is no designated beneficiary. The result would be that the MRD period would be either five years (if the participant died before the RBD) or equal to the fixed life expectancy of the participant (if death occurs after the RBD) rather than the fixed life expectancy of the oldest named individual beneficiary.

Naming Nonspouse Individuals

The naming of a child, individually, as beneficiary results in the inclusion of plan or IRA benefits in a child’s gross estate on the child’s death. If the plan or IRA agreement by its terms permits a child to designate successor beneficiaries (now clearly permitted by Prop. Reg. § 1.401(a)(9)–5, A-7(d)), the payment of benefits may continue to be made to the beneficiary’s beneficiary (either an individual, a revocable trust, or if death occurs after the designation date, even the beneficiary’s estate) over the MRD period determined by the child’s (or, if death occurs during the window period, the successor beneficiary’s) fixed life expectancy. Compared to naming trusts for the participant’s descendants as beneficiaries, no increased stretch out of the MRD period is obtained by designating an individual beneficiary (other than the spouse as sole beneficiary). If the participant wishes to control the devolution of the plan benefits, naming a trust that has successor look-through beneficiaries (and perhaps gives the senior generation trust beneficiary a limited power of appointment with independent trustee approval to name successor beneficiaries) can produce the same MRD period and avoids estate inclusion on a beneficiary’s death.

If individual beneficiaries are named, each beneficiary should file a beneficiary designation unless the plan or IRA agreement’s default provision is appropriate (for example, if the transfer to the beneficiary’s estate is needed to fund estate taxes). To guard against the individual beneficiary’s incapacity, it is advisable for the beneficiary to file such a designation as soon as the account is established and to execute a broad durable power of attorney permitting an agent to change beneficiary designations (and to confirm the acceptability of the power of attorney with the plan sponsor in advance).

Naming the Surviving Spouse

In the case of married participants, the tension between naming trusts as beneficiaries or naming the spouse, individually, as sole designated beneficiary has been increased by EGTRRA’s phased in increase of the estate tax applicable exclusion amount. The maximum stretch out of the MRD period may prevent optimal funding of the bypass trust needed to take full advantage of the per person exclusion amounts. If the decision is made to name the participant’s surviving spouse as the sole designated beneficiary of all or a portion of the participant’s plan or IRA benefits with a view to a rollover after the participant’s death, the spouse should file a beneficiary designation naming the spouse’s revocable trust, continuing trusts for descendants, or individual descendants as beneficiaries to guard against an unplanned disposition should the spouse die before a rollover is accomplished. Secondly, a broad durable power of attorney that will permit the spouse’s agent to accomplish a rollover or own account election in behalf of the spouse (either in all events or in the event of incapacity) should be prepared and vetted with the plan or IRA sponsor.

The filing of a beneficiary designation by the surviving spouse is particularly beneficial if the participant dies before the RBD, no rollover or own account election is made, and the spouse dies before the end of the year in which the participant would have attained age 701/2 had the participant survived. In such an event, Code § 401(a)(9)(B)(iv) provides that the surviving spouse is treated as if the spouse were the participant, and the MRD period for distributions made to a beneficiary (for example, a child) designated by the spouse will be the beneficiary’s life expectancy. Upon a surviving spouse’s death in all other circumstances, the MRD period for successor beneficiaries (whether named by the participant or by the spouse) will be the spouse’s fixed life expectancy in the absence of a rollover or own IRA election.

Naming Trusts

If a trust is named as the beneficiary of all or a portion of the participant’s plan or IRA benefits, the risk of having no designated beneficiary on the designation date due to an individual trust beneficiary’s death does not apply. But there is a risk that the trust may not qualify for look-through treatment on the designation date under future interpretations of the four-part test of the 2001 regulations. Prop. Reg. § 1.401(a)(9)–4, A-5. In particular, the requirement that the beneficiaries of a trust named to receive plan or IRA benefits must be identifiable has been the topic of imaginative informal and non-official interpretations by IRS personnel. Concern has also been voiced that the ability to use trust funds to pay the expenses of the participant’s estate may be deemed to make the participant’s estate a look-through beneficiary and require the accelerated payment of benefits that apply if there is no designated beneficiary. To guard against the possibility of such future rule changes, it is advisable to grant the trustees the power to disclaim benefits in favor of individual beneficiaries and to file a customized beneficiary designation. Customized beneficiary designations by which a participant names not only contingent beneficiaries to take the place of primary beneficiaries who predecease the participant, but also names successor beneficiaries in the event that a beneficiary who survives the participant disclaims benefits or dies, have been accepted by a number of plan and IRA sponsors, particularly if provision is made for exculpation of the plan administrator and an individual (such as the participant’s revocable trust trustee or attorney) is identified as a person upon whom the plan administrator may rely as to the propriety of disclaimers and the certification of post-death circumstances. Customized beneficiary designations facilitate the use of disclaimers (including successive disclaimers) during the window period by providing a list of successor beneficiaries (trusts or individuals) who, because they are designated by the participant, can be treated as designated beneficiaries even if the plan or IRA agreement terms do not contemplate disclaimers.


Retirement Benefits Planning Update Editor: Harvey B. Wallace II, Joslyn Keydel & Wallace, LLP, Albert Kahn Building, 9th Floor, 7430 Second Ave., Detroit, MI 48202-2717,