Stretch IRA: A Handy Estate-Planning Tool

A stretch IRA is a traditional IRA that passes from the account owner to one or more younger beneficiaries at the time of the account owner's death. Since the younger beneficiary has a longer life expectancy than the original IRA owner, he or she can "stretch" the life of the IRA by receiving smaller required minimum distributions (RMDs) each year over his or her life span. More money can then remain in the IRA with the potential for continued tax-deferred growth.

Employing the stretch technique by naming a younger beneficiary (such as a child or grandchild) could provide significant long-term benefits. The uncertain nature of estate tax laws could make a stretch IRA a worthwhile tool for those with multi-million dollar estates. While the new estate tax limits currently allow a $5 million lifetime exclusion ($10 million for couples) and a 35% tax rate on amounts over that threshold, they are scheduled to sunset after 2012.

Creating a stretch IRA has no effect on the account owner's RMD requirements, which continue to be based on his or her life expectancy. Once the account owner dies, however, beneficiaries begin taking RMDs based on their own life expectancies. Whereas the owner of a stretch IRA must begin receiving RMDs after reaching age 70 1/2, beneficiaries of a stretch IRA begin receiving RMDs after the account owner's death. In either scenario, distributions are taxable to the payee at current income tax rates.

Beneficiaries have the right to receive the full value of their inherited IRA assets by the end of the fifth year following the year of the account owner's death. However, by opting to take only the required minimum amount instead, a beneficiary can theoretically stretch the IRA and tax-deferred growth throughout his or her lifetime.

Other key considerations to note:

• New rules allow beneficiaries to be named after the account owner's RMDs have begun, and beneficiary designations can be changed after the account owner's death (although no new beneficiaries can be named at that point).

• The amount of a beneficiary's RMD is based on his or her own life expectancy, even if the original account owner's RMDs had already begun.

Note that the information presented here applies to traditional IRAs bequeathed to a non-spousal beneficiary. Special rules apply to spousal beneficiaries. Contact your financial advisor or tax professional for more information.

Jeffrey Thatcher is a CERTIFIED FINANCIAL PLANNER ™ and Director of HVFCU Financial Services, the investment division at Hudson Valley Federal Credit Union.

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Hudson Valley Federal Credit Union and HVFCU Financial Services are not registered broker/dealers and are not affiliated with LPL Financial. This material was prepared for Jeff Thatcher’s use.

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