Covr Blog: IRA Legacy Planning

RMDs & life insurance can help achieve wealth transfer goals

It’s common for financial advisors to work with clients who have wealth transfer goals, whether to children and grandchildren or a favorite charity. Advisors can recommend various ways to achieve this goal, and today, we wanted to talk about one possibility: using the required minimum distributions from an IRA to purchase life insurance, or what we like to call IRA Legacy Planning.

Many clients don’t necessarily need their IRA money for their own retirement, and would rather leave those assets alone to keep growing and maximize the amount they’ll have to leave behind. However, tax laws force money out of IRAs starting at age 70.5, depleting the legacy plan. Clients in this situation – and there are quite a few these days with favorable stock market numbers and interest rates – have a valuable opportunity to leverage an IRA for their legacy.

Let’s dive a little deeper. Not only do RMDs pose a threat to IRA-based legacies, but any amount remaining in the IRA will be subject to income taxes when the children/family receive the distributions, and can also be subject to estate taxes. The solution? Leveraging annual gifts into a trust, which then owns and pays the premium for a life insurance policy. This strategy utilizes the forced distributions to create an income-tax free legacy per the terms set up in the trust.

With the right kind of life insurance policy, clients can lock in their legacy at a fixed and known amount, which helps them enjoy their own retirement years, knowing they have checked off the legacy box.

Switching from a reinvestment strategy to one that is life insurance-based means clients can make a more tax-advantaged wealth transfer. Unlike an IRA, the life insurance death benefit (owned by an irrevocable trust) will be out of the taxable estate. Also unlike an IRA, the legacy will be income tax-free. As an additional benefit, the trust can help provide protection from the trust beneficiaries’ creditors.

Any advisor working with clients who want to leave a legacy and don’t need IRA income, or have already earmarked IRA assets for family or charity, might want to look into an IRA life insurance strategy.