Roth IRA important tool in estate planning

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The Roth individual retirement account is not only one of the most significant developments in retirement planning in recent years, but it can be an important part of estate planning as well. Converting a traditional IRA to a Roth IRA can, under certain circumstances, be a wise estate-planning strategy.|ret||ret||tab|

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Pay now so heirs won't later|ret||ret||tab|

Suppose the holder of a traditional IRA has an infant granddaughter and wants to leave her part of his estate. |ret||ret||tab|

He doesn't need the money for retirement, and as long as his adjusted gross income for the year is no more than $100,000, he can convert all or part of the IRA to a Roth IRA. He can name a trust with his granddaughter as the Roth IRA beneficiary. |ret||ret||tab|

The downside is that he would owe immediate federal income taxes on any accumulated earnings and any tax-deductible contributions made to the traditional IRA. |ret||ret||tab|

If, however, he pays the taxes out of non-IRA assets, he effectively prepays income taxes for his granddaughter without owing any gift tax or using up any of his $650,000 estate-tax exemption. In addition, by paying the taxes he reduces the size of his taxable estate.|ret||ret||tab|

A significant benefit of this strategy is that although estate taxes may be due on the value of the inherited account, the granddaughter generally will owe no income taxes on any withdrawals. |ret||ret||tab|

For as long as the owner is alive, the Roth IRA will grow tax free and withdrawals do not have to be made at a particular age. |ret||ret||tab|

The traditional IRA requires that the holder begin withdrawing from the account by April 1 of the year following the year he or she reach age 70 1/2.|ret||ret||tab|

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After death|ret||ret||tab|

When he dies, the Roth IRA then becomes subject to the same minimum withdrawal rules as regular IRAs. |ret||ret||tab|

The granddaughter must then begin making minimum withdrawals based on her life expectancy. |ret||ret||tab|

If she were still young when he dies, she would be required to begin withdrawing only a small amount based on her relatively long life expectancy, with no income tax due. |ret||ret||tab|

Each year, the fraction she is required to withdraw would grow slightly; however, the rest of the money would continue to grow tax free and could result in a substantial nest egg over time.|ret||ret||tab|

Remember, however, that if the trust has several beneficiaries, distributions must be based on the life expectancy of the oldest.|ret||ret||tab|

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More after-tax money to your heirs|ret||ret||tab|

Perhaps the greatest advantage of this strategy is that the holder of the IRA can transfer more after-tax money to his heirs. |ret||ret||tab|

Because of the power of tax-free compounding, the younger the trust beneficiary, the greater the benefit, as a result of the longer time the nest egg has to grow.|ret||ret||tab|

|bold_on|(Troy E. Kennedy is a senior vice president and shareholder with Springfield Trust Company.)|bold_on||ret||ret||tab|

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