Beneficiary Disclamers on IRA Death Proceeds: Need an opinion

[Guest David Hammond SRS]

I have a case problem to present for this readership and am intersted in your opinions on its viability.

An IRA ower died before age 70 1/2 with a balance of $100,000. The sole beneficiary of this IRA is the son. This beneficiary is also executor of the decedent's estate and sole beneficiary of the estate.

The gross Federal Taxable Estate of the decedent is under $625000.

Usually the beneficiary would need to receive these funds in full before the end of the year in which the fifth anniverary of death occurs. As received it would be taxable income to the beneficiary for Federal purposes and taxable for the year in which received.

Under IRC section 2518(B) many IRA beneficiaries have successfully disclaimed interest in a decendent's IRA proceeds so long as four requirements are generally met:

1. Disclaimer is in writing

2. Disclaimer is within 9 months of the death of the IRA owner

3. no assets have been previously

received by the beneficiary

4. The beneficiary makes no attempt to influence or direct where the disclaimed funds will go.

In this case all of the above have been met.

The IRA Plan Document in force also has a default beneficiary designation to the estate of the deceased if no other beneficiary is designated by the origianl owner. No Plan language on discalimed interest exists however.

The son of the deceased would like to disclaim the IRA proceeds and let them pass into the estate of the deceased as he believes the IRA Plan so seems to default. As the estate's executor and MOST IMPORTANTLY the estate's sole beneficiary, he believes that the IRA proceeds will be then distributed to him through the estate settlement avoiding Federal Income Tax to him because of his disclaimer and also avoiding Federal Estate Taxation because of the total size of the estate.

This seems too good to be true? What's missing in this assumption? Will the IRS challenge this action or is it a legitimate assumption for this case?

Would appreciate your comments and especailly from any tax practitioners who understand estate taxation and IRA

Regulations.

Regards,

Dave Hammond

[Guest swilsonw]

I've run across similar situations a couple of times. Disclaiming inheritance is no problem, but it depends on your state as to who decides where the money goes from there. In your situation, there are no other bene's so it is logical to assume that the money will go to the estate (assuming no secondary bene's are listed).

Be aware that estate tax and probate issues may cause your client to have less money left in his pocket after taxes than if he had placed this money into a ira bene account and withdrew the procedes over life expectancy (check out this option if you aren't familiar with it) or within 5yrs.

Hope that helps.

[Guest Harry O]

The son shouldn't try to play amatuer tax lawyer.

The IRA avoids estate tax regardless of to whom it is ultimately paid because the deceased's estate is less than $625,000. Paying the estate or paying the son directly doesn't change this result.

Next, the IRA proceeds are *subject* to income tax. They are considered income in respect of a decedent. Generally, either the estate pays the income tax on the IRA (in which case the amount ultimately passing to the son will be reduced by taxes) or the son pays the income tax as a recipient of the payments. The bottom line: IRA benefits can't avoid income tax.

Tell the son to get some competent tax advice before he ends up in hot water with the IRS a few years down the road . . .

[BPickerCPA]

David,

As a named bene, the son can take minimum distributions over his (the son's) life expectancy. He will pay income tax as he withdraws it.

If he disclaims and it goes to the estate, you lose the ability to take it over the son's life AND you potentially get hit for the extremely high estate income tax rates. The estate gets to 39.6% VERY quickly.

In truth, this is a very poor plan. No advantage, plenty of disadvantage.

It sounds like someone thought the estate, being non taxable for estate tax purposes, would be not taxed on income either. WRONG!

[Kathy]

I agree with everyone else here - if the son leaves the money in the IRA and draws it out over his life expectancy, with the first distribution occrring by the last day of the calendar year following the year of the father's death, he will be taxed only on what he withdraws and the rest will continue to grow on a tax-deferred basis. No penalties on distribution due to death. He can always take out more than the required minimum (calculated the same way you calculate for single over 70 1/2) in a particular year if he needs cash. But, if the goal is to save on the income tax, this seems a better way to go.

[Guest David Hammond SRS]

Thank you to all who responded.

As taxable income to the Estate and facing a possible 39.6% tax rate, this strategy is bad, bad, bad.

Appreciate your suggestions.

Dave H.