New PLR on See-Through Trust and Life Expectancy for IRA Distributions

Designated Beneficiaries of See-Through-Trusts and the Life Expectancy used to Determine the Payout Period of the IRA Distributions.

In PLR 200708084, the IRS ruled that a trust is a qualified “see-through trust” and the decedent’s son and daughter are the only individuals who have to be considered “designated beneficiaries” because the trust pays outright to them. The lesson to take from this PLR is that when there are beneficiaries who receive their trust benefit outright, you do not have to look beyond those beneficiaries for potential contingent beneficiaries in determining the oldest trust beneficiary.

FACTS

During her life, “Anna” owned assts including an individual retirement account (“IRA”). Also during her life, Anna executed “Trust T” (“the Trust”), and named the Trust as the beneficiary of the IRA. At her death, Anna was a resident of State U and had not attained the age of 70 ½. She was survived by her son “Bob” and her daughter “Cora”.

At all times relevant to the request for letter ruling, the Trust was valid under the laws of State U. Additionally, pursuant to Article IV, Section B, of the Trust, the Trust became irrevocable at Anna’s death. Furthermore, the documentation described in section 1.401(a)(9)-4, Question and Answer-6, of the “Final” Income Tax Regulations was provided to the administrator / custodian of the IRA in a timely manner.

Article VII of the Trust lists specific gifts of Trust property to be distributed to specific beneficiaries after Anna’s death. Article VIII, Section C, of the Trust provides, in summary, that after satisfying the Trust’s specific bequests, and after satisfying the requirements of Article VIII, Sections A and B, the remaining Trust property is to be used to fund two sub-trusts to benefit Bob and Cora. Article VIII, Section C9 provides that the trust for each child (Bob and Cora) shall terminate when each child attains the age of 45, at which time the trust property shall be distributed free of trust to said child. At Anna’s death, both Bob and Cora had each attained the age of 45.

In addition to the IRA, the Trust was the beneficiary of other property. Satisfaction of all of the bequests required under provisions of the Trust and satisfaction of all estate taxes associated with Anna’s estate were made by using assets other than the IRA. Use of non-IRA assets was required under State U Statutes and relevant State U case law. Thus, as a result, to conform to the requirements of State U law, the IRA had to be used to fund the sub-trusts set up to benefit Bob and Cora under Article VIII, Section C, of the Trust.

RULINGS GRANTED

1. That the Trust is a qualified “See-Through-Trust” within the meaning of section 1.401(a)(9)-4 of the “Final” Income Tax Regulations, Question and Answer-5, and
2. That Bob and Cora are the only individuals who have to be considered potential “designated beneficiaries”, as that term is defined in Code section 401(a)(9)(E), for purposes of determining the payout period of distributions from  the IRA, and

3. That distributions from the IRA to Bob may be based on the life expectancy of Bob, the elder of Bob and Cora, using his attained age in calendar year 2004, the year after the year of death of Anna, and reduced by one during each subsequent calendar year.

IRS ANALYSIS

With respect to the first issue, the IRS noted that Code section 408(a)(6) provides that, under regulations prescribed by the Secretary, rules similar to the rules of section 401(a)(9) and the incidental death benefit requirements of section 401(a) shall apply to  the distribution of the entire interest of an individual for whose benefit an IRA trust is maintained.

The IRS also noted that Section 1.401(a)(9)-4 of the “Final” regulations, Q&A-3, provides that only individuals may be designated beneficiaries for purposes of section 401(a)(9). A person who is not an individual, such as the employee’s estate, may not be a designated beneficiary. However, Q&A-5 of section 1.401(a)(9)-4 provides that beneficiaries of a trust with respect to the trust’s interest in an employee’s benefit may be treated as designated beneficiaries if the following requirements are met:

     (1) the trust is valid under state law or would be but for the fact there is no corpus.

     (2) the trust is irrevocable or will, by its terms, become irrevocable upon the death of the employee.

     (3) the beneficiaries of the trust who are beneficiaries with respect to the trust’s interest in the employee’s benefit are identifiable within the meaning of A-1 of this section from the trust instrument.

     (4) relevant documentation has been timely provided to the plan administrator. Section 1.401 (a)(9)-4 of the “Final” Regulations, Q&A-6(b), provides in relevant summary, that, at a minimum, documentation sufficient to enable an IRA custodian to identify beneficiaries of an IRA must be provided by a trustee to the custodian by October 31 of the calendar year immediately following the calendar year in which the IRA owner dies.

In this case, the IRS found that with respect to the first issue, the Trust is valid under the laws of State U and became irrevocable at the death of Anna. Additionally, a copy of the documentation required under the “Final” Regulations promulgated under Code section 401(a (9) was timely given to the administrator(s) of the IRA. Finally, the identities of the beneficiaries of the Trust, each of whom is a human being, may be determined by perusing its terms. Therefore, the IRS found that the Trust is a qualified “See-Through-Trust” within the meaning of section 1.401(a)(9)-4 of the “Final” Income Tax Regulations, Question and Answer-5.

With respect to the second and third issues, the IRS noted that Code section 401(a)(9)(B)(ii) provides, in general, that if a plan participant (IRA holder) dies before the distribution of his interest has begun in accordance with subparagraph (A)(ii) (prior to his required beginning date), then his entire interest must be distributed within 5 years of his death.

However, Code section 401(a)(9)(B)(iii) provides an exception to the 5-year rule. In general, pursuant to the exception, if any portion of the interest of a deceased plan participant (IRA holder) is payable to (or for the benefit of a designated beneficiary), such portion will be distributed beginning not later than 1 year after the date of the deceased’s death (or a later date as prescribed by the Secretary under Regulations) in accordance with regulations over the life of the designated beneficiary (or a period not extending beyond the life expectancy of the beneficiary).

Code section 401(a)(9)(E) defines a “designated beneficiary” as any individual designated as a beneficiary by the employee (IRA holder). Furthermore, Section 1.401(a)(9)-4 of the “Final” regulations, Q&A-1, provides, in relevant part, that a designated beneficiary is an individual who is designated as a beneficiary under a plan either by the terms of the plan or by an affirmative election by the employee. A beneficiary designated under the plan is an individual who is entitled to a portion of an employee’s benefit contingent on the employee’s death or another specified event. A designated beneficiary need not be specified by name in the plan or by the employee to the plan in order to be a designated beneficiary so long as the individual who is to be the beneficiary is identifiable under the plan.

The IRS also noted that Section 1.401(a)(9)-3 of the “Final” regulations, Q&A-4(a), provides, in relevant part, that in the absence of a plan provision to the contrary, with respect to an individual who dies prior to reaching his required beginning date, if said individual has designated a beneficiary, distributions from his plan or IRA are to be made in accordance with the life expectancy rule of Code sections 401(a)(9)(B)(iii) and (iv). Additionally, Section 1.401(a)(9)-5 of the “Final” regulations, Q&A-7(a) provides, in summary, that except as otherwise provided in paragraph (c) of this A-7 (not pertinent to this ruling request), if more than one individual is designated as a beneficiary with respect to an employee as of the applicable date for determining the designated beneficiary, the named beneficiary with the shortest life expectancy will be the designated beneficiary for purposes of determining the applicable distribution period. In this case, the IRS found that with respect to the second and third issues, since the Trust, and its subtrusts, constitute valid “See-Through-Trusts”, it is necessary to determine who, if anyone, is the designated beneficiary, within the meaning of Code sections 401(a)(9) and 408(a)(6), of Anna’s IRA. In this regard, the IRS notes that the IRA was allocated to the subtrusts created under the terms of Article VIII, Section C, of the Trust to conform to the requirements of State U law. Thus, in accordance with State U law, the trustee of the Trust did not have the discretion to allocate the IRA in such a way that it could be used to satisfy any other bequest of the Trust. In short, it has been represented, and documentation attached to this ruling request support the representation, that the allocation of the IRA to the subtrusts, referenced above, was mandatory and not discretionary.

As noted above, Bob and Cora are the only beneficiaries of the two subtrusts. Also, as both Bob and Cora had attained age 45 prior to the death of Anna, distributions from the property used to fund said subtrusts, including the IRA, are to be made directly to Bob and Cora without limitation, and free of trust. This precludes the accumulation of any portion of said distributed amounts for the benefit of other subtrust beneficiaries after the end of the year with respect to which said distribution was made. As a result, Bob and Cora are the only beneficiaries who will receive the distributed amounts and the only beneficiaries who must be considered for purposes of determining who is the designated beneficiary, within the meaning of Code section 401(a)(9)(E), of the IRA.

Therefore, with respect to the second and third ruling requests, the IRS conclude that Bob and Cora are the only individuals who have to be considered potential “designated beneficiaries”, as that term is defined in Code section 401(a)(9)(E), for purposes of determining the payout period of distributions from the IRA. Moreover, distributions from the IRA to Bob may be based on the life expectancy of Bob, the elder of Bob and Cora, using his attained age in calendar year 2004, the year after the year of Anna’s death, and reduced by one during each subsequent calendar year.

CONCLUSION

If a trust meets the IRS requirements and qualifies as a valid “See-Through-Trust,” the distributions from the IRA are withdrawn based on the life expectancy of the oldest trust beneficiary. This generally allows the IRA beneficiaries to receive a substantially longer deferral period than if the trust failed to meet the requirements, and distributions were required to be made under the terms of the five-year rule. However, the reader should note, that the fact that the trust is named as the IRA beneficiary is not controlling on the issue of life expectancy. Unless the trust satisfies all of the IRS requirements for a “See-Through-Trust,” the beneficiaries will not be allowed to calculate the RMDs based on the life expectancy of the oldest beneficiary, and thus receive the enhanced deferral.

In addition, as a planning point, the reader should note that just because a trust qualifies as a “See-Through-Trust,” the trust may not be the best choice as the beneficiary of the IRA. Other factors should be taken into consideration, including such things as the age of the oldest trust beneficiary in relation to the age of the IRA owner, spousal rollovers, trust income tax rates, lump sum distributions, and the IRA beneficiaries’ needs and goals.

HOPE THIS HELPS YOU HELP OTHERS!

Robert S. Keebler, CPA, MST

rkeebler@virchowkrause.com