Are Taxes Required for Tax-Deferred Retirement Plans in a Trust?

As long as you're alive, your trust and your IRA, 401(k) -- or other tax-deferred retirement accounts -- stay separate. Trusts can't own this sort of retirement account, but you can, however, name the trust the beneficiary of your retirement accounts. This won't save on taxes when it's time to withdraw money from the account. In fact, it may make the tax bill higher.

Why a Trust?

If you name an individual as your retirement-account beneficiary, he gets full access to the account when you die. If he wants to withdraw all the money immediately, he can. You can set up a trust, however, to limit the beneficiary's access to the money. By naming the trust as your account beneficiary, the trustee can manage money for an heir who's mentally incompetent or under age. It also protects the account assets from irresponsible, compulsive-spending beneficiaries.

Trust and Tax

As a general rule, anything withdrawn from a tax-deferred retirement account becomes taxable. If your trust taps your IRA, the income is just as taxable as if a human heir were taking the cash out. Assets still in the account remain tax-exempt; tax-exempt withdrawals, such as from a Roth IRA, are exempt whether they're withdrawn by a trust or a person. If your trust does owe tax, the rate may be higher than an individual would pay on the same income.

Mandatory Minimums

After you die, whoever inherits your account has to make required minimum distributions -- mandatory withdrawals -- every year. An individual beneficiary can usually base the RMD amount on the value of the account assets divided by her life expectancy. If you die after 70 1/2, the age at which mandatory minimum withdrawals start, the trust has to base the RMDs on your age, which can use up the account faster. If you die younger than 70 1/2, the trust has to empty the account within five years.

See-Throughs and Conduits

If you set up a see-through trust as your beneficiary, the trust beneficiary can use his age as the basis for the RMDs. That allows smaller annual withdrawals, so the account assets stay tax-deferred longer. The trust is "see through" because the beneficiary or beneficiaries are named and identifiable. Setting up a trust for "all my grandchildren" wouldn't cut it. Another option to cut trust taxes is a conduit trust, which distributes everything it receives straight to the trust beneficiaries.

About the Author

A graduate of Oberlin College, Fraser Sherman began writing in 1981. Since then he's researched and written newspaper and magazine stories on city government, court cases, business, real estate and finance, the uses of new technologies and film history. Sherman has worked for more than a decade as a newspaper reporter, and his magazine articles have been published in "Newsweek," "Air & Space," "Backpacker" and "Boys' Life." Sherman is also the author of three film reference books, with a fourth currently under way.

Zacks Investment Research

is an A+ Rated BBB

Accredited Business.