As a senior citizen’s attorney and estate planner, I’ve noticed that a large percentage of my clients’ wealth is in retirement plans. I have reviewed many pension plans with different sets of rules. These plans include pension, profit sharing, 401(k), IRA, Roth IRA, SEP-IRA (Simplified Employee Pension Plan), Simple IRA, 403(b), and 457.
It is important to remember when planning estates that retirement assets are different from other assets. There are seven reasons why retirement assets are different from other assets.
1) Pension assets have never been taxed. While most of your assets, such as your home and non-retirement investments, are purchased with after-tax dollars, retirement contributions are paid with pre-tax dollars. Income tax is not paid on the money placed in the plan and, year after year, pension contributions grow tax-free. However, this means that when distributions are taken from the plan, they are taxed as income.
2) Your will does not determine who receives your retirement assets. Individuals execute wills to ensure that their assets will pass to their heirs in accordance with their wishes. However, this will not include all assets, as assets, such as pension benefits, are transferred by contract and not by will. The contract is the completed beneficiary designation form for the qualified plan or IRA. As such, this form could be the most important part of your estate planning.
3) Pension assets are not subject to probate. Because retirement assets are transferred to beneficiaries by this contract and not by the will, they are not included in the probate process unless the participant names a designated beneficiary other than the estate.
4) Retirement assets do not get a base “increase” on the member’s death. As you may know, any non-retirement investments you own, including your home, are subject to capital gains tax when sold. If your heirs receive these assets on your death, they will receive the assets with an increase in base up to the fair market value on the date of your death. This is not the case with pension benefits.
5) Individuals generally pay higher tax rates on retirement assets. When your heirs subsequently sell your non-retirement assets, they will pay capital gains on any appreciation that occurs after your death. In other words, your heirs will pay taxes on the difference between the sale price and the fair market value on your date of death.
6) The owner of old-age assets cannot “give away” these assets during his lifetime without creating a tax. A common strategy for reducing an individual’s taxable estate is to make gifts during their lifetime, thereby reducing the overall size of taxable estate. Thus, by working within the limits of the tax provisions on gifts, one can pass on part of an estate to future generations without incurring tax. Retirement assets, on the other hand, cannot be transferred during your lifetime because all transfers are considered distributions and these distributions are taxed on the donor.
7) Members are more emotionally invested in their retirement benefits. For retirees, retirement assets present the product of an entire career. The retiree has probably spent a large part of his life building these funds and saving them for retirement. Owners sacrifice other immediate goals in favor of retirement savings and watch their retirement assets closely as they grow over their lifetime. As a result, retirees have high expectations for these funds – and big fears. Will the money last as long as they do? What will they do if not? In planning for estate protection, it is important to note that your retirement assets are not protected simply because they are the fruit of your hard work. However, there are strategies that can be implemented to protect what you have worked so hard for.
Solicitor Daniel O. Tully is a solicitor with the law firm of Kilbourne & Tully, PC, Members of the National Academy of Elder Law Attorneys Inc., with offices at 120 Laurel St., Bristol. (860) 5831341 or ktelderlaw. com.