Sometimes, we are our own worst enemy. Parents worry that about have minors receive an inheritance and think that giving the money to adult, such as an aunt or uncle, to manage for the child, is the solution. Wrong! It just creates problems. Here is the most recent scenario: a parent listed his brother, rather than his children, as the beneficiary on all of his IRAs so that the brother could manage funds for the kids. Problem 1: the IRA distributions are now taxed at the adult’s ordinary rate of income tax which is far larger than the income tax rate for the children. Wasted money. Problem 2: the mistake significantly shortened the time period over which the IRA could grow tax deferred, if it has been based on the life spans of each child. Wasted money. Problem 3: the adult now has unexpected income which increases his tax burden. Problem 4: if uncle gifts the money to the children, he may have to file a gift tax return. Wasted money.
Things did not go as planned. While there may be solutions to avoid the income tax hit to the brother, the loss of income that would’ve ultimately reached his children is really big.
Lesson learned: Don’t make assumptions. Let your advisors help you.