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Roth IRA as a Tax-Advantaged Legacy

by Craig Moser on July 13, 2018

Roth IRAs are amazing tools for accomplishing wealth creation and transfer. One creative use of a Roth account is naming a young child as the beneficiary. At your death, the child takes minimum required distributions (RMDs) for his/her own life expectancy. The potential is pretty incredible and allows you to leave a significant tax-advantaged legacy for a young child.  Here is how it works:

Set it up.

Suppose John is 60 and has a 10-year-old granddaughter, Julie. John has a modest Roth IRA account with $5,000.  He knows he won’t need the money during his or his wife’s lifetime, and names Julie as the beneficiary. John then sets up a restricted beneficiary form that allows Julie to only withdraw the actual required distribution amount after his death, for the rest of her life.

Suppose John dies ten years later at age 70.  The Roth account has grown to about $14,000. Julie is now 20 years old with a remaining life expectancy of 63 more years (age 83). The tax law requires her to withdraw some of the money each year, but each withdrawal is tax-free.

Your Tax-Advantaged Legacy

How much money would she potentially receive in cumulative distributions over 63 years if the account stays invested and averages 6% over that time? Her total distributions over 63 years would be an estimated $161,769.79! And all of the distributions are tax free!

Imagine your own child or grandchild receiving a tax-free check every year for the rest of his/her life from the account you left. Inflation will do a number on the real value of almost $162,000 over 60 years plus, but still, that’s not chump change. Not bad for a seemingly insignificant

$5,000 account!

The idea works for parents or grandparents; the key is naming a young beneficiary and investing the money for potential growth.

If you’re interested in this concept but don’t have a Roth IRA, you can contribute $5,500 ($6,500 if you are over age 50) for 2017 tax year, as long as you have that much earned income and are under the overall income limits for funding a Roth account. If you’re already retired and don’t have earned income, you might be eligible to convert portions of your traditional IRAs if your modified adjusted annual income is under a certain amount. Each situation has to be looked at closely, but in the right circumstances, this can work really well.

The concept works best with Roth accounts, since the distributions to your beneficiary are tax- free. However, the concept is identical for regular IRAs or non-qualified annuities, except the distributions are either totally or partially taxable as received.

A little creativity with Roth accounts and beneficiary planning can go a long way.

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