You're allowed to name anyone as the beneficiary of your IRA. You’re also allowed to name a non-person as your IRA beneficiary. Examples of non-persons would include charities, a trust, or your estate. It is generally not a good move to name your estate as your IRA beneficiary.
When you die, your estate includes the property that you owned at the time you died. It’s a legal entity that’s created after you die. Your executor must then pay your expenses and liabilities and distribute the balance according to your will. If you don’t have a will, state law determines who gets your assets. However, your IRA is different from other assets you own, such as your house. An IRA goes to the beneficiary you named on the IRA custodian’s beneficiary form. Your IRA passes to your named beneficiary; your will does not control who gets your IRA.
If you name your estate as the beneficiary of your IRA, then your will controls who gets it. The biggest problem with having your estate as your IRA beneficiary is that the death distribution options will be severely limited.
Under IRS rules, your estate is not considered a “designated beneficiary” which means it has no life expectancy and can’t take advantage of the “stretch IRA” concept. So, if you die before your required beginning date (April 1 of the year after you turn age 70 ½), the IRA will have to pay out all funds to the estate within five years. If you die after your required beginning date, your IRA will have to make distributions to the estate over your remaining single life expectancy. What this all means for the beneficiaries who eventually get your IRA funds through your estate is that they’ll have to take the funds sooner, and thus likely pay more taxes than if you had named than as the direct beneficiary of your IRA.
A living beneficiary named your IRA beneficiary is guaranteed the stretch IRA if they want it. They are allowed to stretch required distributions over their life expectancy using the IRS Single Life Expectancy Table. This is a far better option that having the IRA funds funnel through the estate.
- By Joe Cicchinelli and Jared Trexler