When an individual has an IRA through an employer, or directly through a financial institution, the individual must designate a beneficiary for that IRA. The beneficiary receives the distributions from the IRA in the event that the IRA’s owner dies before collecting all of the funds in the IRA. If an owner would like to distribute the funds in an IRA to more than one beneficiary, they may want to make that IRA payable to a trust.
Since individual retirement accounts (IRAs) are designed for the main purpose of saving for retirement, the accounts come with stipulations regarding the withdrawal of funds. Funds in an IRA may not be withdrawn without penalty before the account owner reaches the age of 59 1/2. When an IRA is set up, a distribution schedule is also set up for the account. This schedule is based on the expected lifespan of the IRA owner.
If the owner of an IRA has a trust set up to distribute his estate after his death, and would like for the funds in the IRA to go to multiple heirs, making the IRA payable to the trust may be the most effective way of distributing those funds. As long as the owner was older than 70 1/2 years of age at his death, the remaining distributions pay out to the trust on the same schedule that they paid out on during the owner’s life.
When the heirs that receive funds from an IRA through a trust receive the distributions, they must declare these distributions as income if the IRA was a traditional, employer-based IRA, because taxes have never been taken out of the money. If the money comes from a Roth IRA, or another account that was funded after taxes were taken out, the recipients of the IRA funds pay taxes only on earnings in the account and not the original contributions.
Lump Sum Distribution
If the owner of an IRA made payable to a trust was younger than 70 1/2 years of age at his death, the remaining funds in a trust won’t pay out to the trust, and the heirs, in accordance with the original payout schedule. Instead, the funds must be withdrawn completely within five years of the owner’s death and taxes must be paid on the distributions in that time. If the heirs of a trust choose to cash the IRA out all at one time, this lump sum distribution gets taxed immediately, which commonly leads to a higher rate of taxation.
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