It's Now Easier to Leave Your IRA to a Special Needs Trust

The Internal Revenue Service (IRS) recently ruled on two important issues involving IRAs and special needs trusts (SNTs). First, the IRS ruled that when a person dies, his or her IRA may be transferred to a child's SNT free of estate or gift taxes. Additionally, the agency said that required minimum distributions from that IRA to the SNT may be calculated based on the child's expected lifespan. This second ruling means that taxes owed on the IRA can be stretched out over the beneficiary's lifetime.

The decision comes after the IRS reviewed a specific taxpayer's case. After the taxpayer passed away, his IRA was divided among his four sons, one of whom was disabled. If the disabled son directly received the IRA, he would lose eligibility for Medicaid and other benefits. To remedy the problem, the child's mother created an SNT, to which she transferred the son's portion of the IRA. The IRS found that the transfer of the father's IRA to the SNT did not require the payment of gift and estate taxes and that any future minimum distributions from the IRA to the disabled son's SNT could be calculated based on the disabled child's estimated life expectancy.

Although all this represents good news for estate planners, California estate planning attorney and ASNP founding member Diedre Wachbrit notes in her Special Need Planning Blog that the family in this case would have been better off with more effective estate planning. Had the deceased taxpayer made his IRA payable directly to his son's SNT, "court costs...anxiety, and a 'pay back to the state' provision all could have been avoided."