In the insurance and financial planning industry, we understand the power afforded a retirement account by the tax-deferred growth of its values.
Of course, once withdrawals are made from this type of plan, the owner must pay income tax. In addition, at the death of the owner, depending upon the individual situation, the plan can lose more than half of its value to income and estate taxes.
This article will look at the amount of wealth that can be built for multiple generations through Individual Retirement Account stretch-out planning. It will also explore the crucial role life insurance plays in making sure the tenets of this planning are fulfilled. We will focus on IRA stretch-out planning since many clients, after consultation with their tax and/or legal advisors, will roll their qualified plan assets over to an IRA upon separation from service with their employer, if given the opportunity.
To illustrate this, lets look at an example of a client who rolled over a qualified plan distribution into his IRA. This individual, “Mr. Scott Successful,” has an IRA currently worth $1 million. His total estate is worth $4 million and the non-IRA assets are growing at 4% annually. He and his wife, Susan, are both 62-years-old and have two children, Sidney, who is 40, and Sally, who is 38.
From the chart we can see that assuming Scott’s IRA grows at 8% annually until he reaches age 75 and then at 6% annually thereafter, the amount of wealth that can be passed to Scotts heirs is astounding.
Like many married couples, Scott will name Susan as his primary IRA beneficiary and his children as contingent beneficiaries. At her husbands death, Susan can roll over the IRA to her name without any income or estate taxes and may split it into two accounts, one for each child. This split does not have to be equal and can take into account each childs situation.
This is not an irrevocable election, as Susan will continue to control the IRA and has the ability to change either beneficiary at any time. If she is over age 70, as in our example, she will continue to at least take the required minimum distribution amount annually, but based on her life expectancy.
Assuming the children are still the beneficiaries at Susans death, each child would take annual required minimum distributions based on their individual life expectancies. By utilizing separate IRAs, each child can use his or her own life expectancy rather than that of the oldest.