When Is Retirement; 'Dynasty' Trusts

Natalie Choate

Question: My client is a professor at X University. She turned 70½ this year (2011), and her last day of work at XU will be Dec. 31, 2011. She does not have to take minimum required distributions from the XU pension plan until the later of April 1 of the year after the year she turns 70½ (i.e., April 1, 2012) or April 1 of the year after the year she retires. Can we say she is "retiring" in 2012, so as to push her required beginning date back to April 1, 2013? After all, she is working every day right through the end of 2011, so it does seem that the first year she is "retired" is 2012. ... It seems very arbitrary and unfair that she has to take her first required minimum distribution just three months after she retires, whereas if she worked for even one day in January 2012, she wouldn't have to take any distributions until April 2013.

Answer: The usual assumption is that a person who works through 2011 but does not work a single day in 2012 is considered to have retired in 2011. If you want to fight with the IRS and the plan administrator about this, be my guest. And yes it's arbitrary, but any rule based on birth dates and retirement dates will end up having "unfair" results for some people. This has been happening since kindergarten when children born just one day apart might end up in totally different grades because they happened to be born on either side of a cutoff date.

Question: Would the following trust provisions work to establish a "see-through" trust, the beneficiary of which would be the "Designated Beneficiary" for purposes of determining the Applicable Distribution Period for an IRA payable to the trust? I am trying to establish a "circle" trust similar to that discussed in section 6.4.05(B) of the new edition of your book (page 455). The initial beneficiary would be my daughter Janice. The trust is a lifetime trust for her benefit. The trustee is to use income and principal of the trust as the trustee deems best for Janice's benefit during her lifetime. Though all payments to Janice are discretionary with the independent trustee, there are no other beneficiaries during her lifetime, and the trustee is instructed to consider her health, support, education, and well-being as significant goals of the trust. Upon Janice's death, whatever is left in the trust will pass to such persons among the class consisting of my progeny as Janice shall appoint by will, provided

that she cannot appoint to anyone who is older than she. If she fails to exercise the power, the property will pass to her offspring, or (if she has left no offspring; she has no offspring now living) to my descendants then living who were born after Janice. In either case, the property will be held in life trusts for the individuals on terms similar to the terms of the trust for Janice.

If at any time there is only one descendant of mine living who is either (1) Janice or (2) an individual younger than Janice, the trust will immediately

terminate and the trust property will pass outright to such last surviving descendant.

Answer: The law on this question consists of a vague statute and a brief regulation, fleshed out by one or two private letter rulings. Based on this paucity of authority, I cannot offer meaningful reassurance regarding any particular trust. My view is, there are some situations where the statute and regulation clearly support see-through trust status; and in all the other cases "your guess is as good as mine." Your example falls in the latter category.

With regard to a "circle trust," if you have a specified group of living individuals who are the prime (and intended to be the sole, barring unforeseen

circumstances) beneficiaries, such as the participant's children, and these beneficiaries are going to get the trust and benefits outright at a certain age that is well within their life expectancy, such as 25, 35, or even 45, then the circle provision (calling for early termination if all but one of the class members dies while there is still money in the trust, with outright distribution to that last surviving class member) meets the letter and spirit of the statute and regulations.

Obviously it shouldn't even be necessary to have such an early termination provision if all the money is to be paid outright to these known named individuals by the time they reach the specified age. In the case of the typical minor's trust, the actuarial likelihood that the minor beneficiaries will reach age 25, 35, or 45 is close to 100%. However, the IRS regulations look for "immediate outright" beneficiaries, and do not recognize "outright upon attaining age 25–45" as equivalent to "outright immediately regardless of age." Until the IRS adopts a more reasonable position on minors' trusts, the circle/early termination device seems to satisfy the IRS's requirement that the taker in default (who takes if the minors die before reaching the specified age) be an individual who is no older than the group members. So that is why the circle trust was invented and that's why it works.

In your example, however, you are not trying to get the retirement benefits to the beneficiary (Janice), while just holding them back until she reaches an

appropriate age. You are trying to do the opposite ... you are trying to keep the benefits away from her, except to the extent the trustee deems it advisable to use them for her benefit, and tie the money up forever in trust for your descendants.

The views expressed are the author's.

, 12/09/2011

Natalie Choate answers reader questions about retirement date determination for minimum required distributions and establishing a circle trust.