Revocable trusts can be named as qualified plan beneficiaries.

Employees often complete their employer retirement plan designated beneficiary forms without fully considering the income tax and estate tax implications of their choices. Because most employees today have a substantial percentage of their personal assets in qualified retirement vehicles (such as pensions, Sec. 401(k) plans and individual retirement accounts), an informed designation that integrates estate planning objectives is essential.

Not only do beneficiary designations provide direction as to who will receive the benefits on an employee's death, they also affect how rapidly the plan assets must be distributed during the employee's lifetime and after death. If the assets are not needed to preserve cash flow while the employee is alive, the goal should be to keep the assets inside the retirement account as long as possible, thus deferring income taxation and taking full advantage of the tax shelter aspects of a qualified plan. Because the Taxpayer Relief Act of 1997 repealed the excess accumulation and excess distribution taxes, there is no further need to worry about having too much accumulated in a plan.

At the same time, an employee should consider integrating qualified retirement plans into an overall estate plan. Taking advantage of the $625,000 (in 1998) applicable exclusion and/or preserving the unlimited marital deduction (in an effort to continue maximizing deferral opportunities) are important estate planning steps. Today, many individuals set up revocable living trusts to avoid probate and conservatorship proceedings, and to facilitate estate planning.

Until 1997, however, IRS regulations provided that, unless the trust became irrevocable at the employee's required beginning date, the employee was deemed to have no designated beneficiary. Generally, the required beginning date is April 1 of the year following the calendar year in which the participant reaches age 70 1/2, unless the participant is still working and is not a 5% owner.

If the trust is irrevocable on the date the employee reaches the required beginning date, the employee can take the distributions over his joint life expectancy and the life expectancy of the oldest trust designated beneficiary (subject to the minimum distribution incidental benefit (MDIB) rule), permitting a greater tax-deferred accumulation inside the plan. The MDIB rule deems the designated beneficiary (other than the participant's spouse) to be no more than 10 years younger than the employee while the employee is alive, which increases the payout amount until the employee dies.

On the other hand, if the plan participant does not designate a beneficiary or is deemed not to have a designated beneficiary, the minimum distributions during the participant's lifetime will be paid over no mom than the employee's life expectancy. When the employee dies, the retirement plan benefits must generally be distributed within five years.

New Rules

In response to comments, the Service revised the proposed regulations by liberalizing the required minimum distribution rules (REG 209463-82, 12/30/97). The proposed regulations now allow revocable trusts to be named as qualified retirement plan beneficiaries without jeopardizing any of the favorable distribution options available to individuals and certain irrevocable trusts. Thus, the employee will be deemed to have chosen a beneficiary if the revocable trust rules are satisfied.

The revisions to Prop. Regs. Sec. 1.401(a)(9)-1 keep most of the same requirements of the original regulations. The trust must be valid under state law (or would be but for the fact that there is no corpus), and the trust beneficiaries must be identifiable from the trust instrument. The new proposed regulations provide that a trust need not be irrevocable at the time it is named as a beneficiary or at the employee's required minimum distribution beginning date, to be considered a "designated beneficiary" for purposes of computing the required minimum distributions.

Because plan administrators must be satisfied that die requirements for treating beneficiaries of a trust as designated beneficiaries are met, the existing regulations require that a copy of the trust instrument be provided to the, plan administrator by the employees required beginning date, or at death if sooner. Because the trust can now be revocable, the employee must agree to give to the plan administrator a copy of any plan amendments within a reasonable time.

If privacy concerns are at issue, Prop. Regs. Sec. 1.401(a)(9)-, Q&A-13-2(a), gives an employee another option. An employee may provide a list of all of the trust beneficiaries (including any contingent beneficiaries), with a description of what each beneficiary is entitled to and whether any conditions exist that could affect diem entitlement. The employee must certify that the list is correct and complete, and that the trust instrument meets all of the other regulatory requirements for a trust to qualify as a "designated beneficiary." Any changes to the original certified list must be certified again and submitted to the plan administrator. The trust administrator could, however, still request that the employee furnish a copy of the trust instrument. A final certification must be submitted to the trust administrator nine months after the employee's death, if the beneficiaries of the trust are to be treated as designated beneficiaries.

Conclusion

Practitioners should urge clients to re-examine their beneficiary designation forms in light of these new regulations and other law changes that occurred last year. The revised proposed regulations provide a favorable approach to planning with revocable trusts. It should be noted, however, that the regulations fail to address whether these new regulations are retroactive and whether they apply to a testamentary trust set up under an employee's will.