Take-Away: Many existing IRA beneficiary designation forms and see-through trusts will have to be revised in light of the SECURE Act’s 10-year distribution rule, and the special category that it creates for eligible designated beneficiaries who may continue to take stretch distributions from inherited IRAs and qualified plan accounts using their life expectancy.

Example: I fielded a question this week from one trust officer with regard to an existing trust that was impacted by the SECURE Act. The facts are pretty straight-forward.

Facts: This is a second marriage with each spouse having adult children from their prior marriages. One spouse adopted a trust after the second marriage. The trust provides that on the settlor’s death, after the trust becomes irrevocable, the trustee is directed to pay a fixed annual dollar amount of income to the settlor’s adult children, with the balance of trust’s income distributed to the surviving spouse. The settlor’s very large IRA is directed to be paid to the trust.

Problem: The SECURE Act creates a problem in light of the trust having multiple beneficiaries. The adult children beneficiaries are subject to the 10-year distribution rule. The surviving spouse is an eligible designated beneficiary, who can continue to follow the ‘old’ stretch distribution rule using the survivor’s life expectancy to take required minimum distributions (RMDs.)  With multiple beneficiaries of the same trust, the surviving spouse is unable to use the ‘old’ stretch distribution rule even though that spouse otherwise qualifies as an eligible designated beneficiary.

Sole Beneficiary Limitation:  In order for the surviving spouse (or the trustee of the see-through trust) to utilize the special stretch distribution option as an eligible designated beneficiary, that rule is only available if the survivor is the sole beneficiary of the trust. With multiple beneficiaries, some of whom are not eligible designated beneficiaries, the stretch distribution option cannot be used.

Separate Share Solution: Perhaps the only way to enable the surviving spouse to be able to continue to utilize the stretch distribution option is to the create a separate share for the surviving spouse under the trust, and another separate share for the benefit of the settlor’s adult children. The surviving spouse’s trust share would then take RMD’s using the surviving spouse’s life expectacy. The children’s separate trust share would be subject to the 10-year distribution rule. Then the settlor’s IRA beneficiary designation would have to be changed to direct a specific portion of the settlor’s IRA to the children’s separate share, and the balance of the IRA to the surviving spouse’s separate share. The children’s share of the IRA beneficiary designation would have to be periodically monitored since the trust is directed to pay a fixed dollar amount annually to the children beneficiaries, so the settlor will have to estimate if there is enough set-aside in the IRA beneficiary designation to ‘fund’ that annual dollar amount distribution.

Another Example: The same problem can arise when an IRA is made payable to the IRA owner’s children, some of whom are adults while others are minors. Minor children are also eligible designated beneficiaries, but adult children are not. If only one beneficiary is an eligible designated beneficiary and the others are not, e.g. a ‘pot trust’ is created for ‘all of my children,’ the minor child cannot take advantage of the stretch distribution rule, even though that minor would otherwise qualify as an eligible designated beneficiary. Again, the eligible designated beneficiary (or a trustee acting on behalf of that minor beneficiary) can only use the stretch distribution rule if a separate share or separate account has been established for theminor’s benefit.

Conclusion: Since the SECURE Act creates different categories of beneficiaries of inherited retirement accounts, care must be taken to isolate those beneficaries who might benefit from a stretch distribution, from those other beneficiaries who will be subject to the 10-year distribution rule. Consequently, IRA beneficiary designations and trust instruments will need to be reviewed to see if there is the need to create separate accounts for each of those beneficiaries. You will recall that the deadline for splitting beneficiaries with separate shares for each beneficiary is December 31 of the year that follows the year of the retirement account owner’s death.