Income in Respect of a Decedent does not get a new basis at death. A person who inherits IRD takes the decedent's basis, or the amount the decedent contributed to the retirement plan or contract. In addition, there is an estate tax on the value of the IRA, if the estate is over the exclusion amount.

After 2010 there will be no estate tax, but IRA's and other Income in Respect of a Decedent will not be eligible for an allocation of stepped up basis. The IRA beneficiary will continue to get only the "carryover basis," and income tax, at regulate income tax rates, will be payable.

Who is a Designated Beneficiary? Sec. 1.401(a)(9)-4 "A-1. A designated beneficiary is an individual who is designated as a beneficiary under the plan. . . . An individual may be designated as a beneficiary under the plan either by the terms of the plan or, if the plan so provides, by an affirmative election by the employee (or the employee's surviving spouse) specifying the beneficiary. A beneficiary designated as such under the plan is an individual who is entitled to a portion of an employee's benefit, contingent on the employee's death or another specified event. . . . The members of a class of beneficiaries capable of expansion or contraction will be treated as being identifiable if it is possible, to identify the class member with the shortest life expectancy. Naturally, the beneficiary's birthday will determine if he or she has the shortest life expectancy.The fact that an employee's interest under the plan passes to a certain individual under a will or otherwise under applicable state law does not make that individual a designated beneficiary unless the individual is designated as a beneficiary under the plan."

May a person other than an individual be considered to be a designated beneficiary?
Sec. 1.401(a)(9)-4 "A-3. No, only individuals may be designated beneficiaries . . . A person that is not an individual, such as the employee's estate, may not be a designated beneficiary. If a person other than an individual is designated as a beneficiary of an employee's benefit, the employee will be treated as having no designated beneficiary . . . " for purposes of distribution and income tax deferral.
In the words of Natalie Choate: The IRS has "drawn a line in the sand on the question of whether individual beneficiaries of an estate can be considered 'designated beneficiaries.'" Choate's book lists approaches that IRA providers can take to try to protect forgetful customers who don't designate individual beneficiaries.

If there is more than one designated beneficiary, which designated beneficiary's life expectancy will be used to determine the applicable distribution period? Sec. 1.401(a)(9)-5 "A-7 if more than one individual is designated as a beneficiary . . . the designated beneficiary with the shortest life expectancy [the oldest person] will be the designated beneficiary for purposes of determining the applicable distribution period.

Is there any way to get around the Oldest Beneficiary's Life Expectancy? Yes, if an IRA is left to several beneficiaries, each beneficiary can use his or her own life expectancy to determine the payout if the participant's benefits are divided into separate accounts. 1.401(a)(9)-8 "Q-3. What are separate accounts? A-3. . . . separate accounts in an employee's account are separate portions of an employee's benefit reflecting the separate interests of the employee's beneficiaries under the plan as of the date of the employee's death for which separate accounting is maintained. The separate accounting must allocate all post-death investment gains and losses, contributions, and forfeitures, for the period prior to the establishment of the separate accounts on a pro rata basis in a reasonable and consistent manner among the separate accounts. However, once the separate accounts are actually established, the separate accounting can provide for separate investments for each separate account under which gains and losses from the investment of the account are only allocated to that account, or investment gain or losses can continue to be allocated among the separate accounts on a pro rata basis. A separate accounting must allocate any post-death distribution to the separate account of the beneficiary receiving that distribution."

Can an ex-spouse rollover an IRA? 1.401(a)(9)-8 "A-6. (a) A former spouse to whom all or a portion of the employee's benefit is payable pursuant to a QDRO will be treated as a spouse (including a surviving spouse) of the employee . . . requirement, regardless of whether the QDRO specifically provides that the former spouse is treated as the spouse . . . "

Can a Trust be the Beneficiary of an IRA? Sec. 1.401(a)(9)-4 A-5. (a) If the requirements of paragraph (b) of this A-5 are met with respect to a trust that is named as the beneficiary . . . the beneficiaries of the trust (and not the trust itself) will be treated as having been designated as beneficiaries of the employee under the plan for purposes of determining the distribution period . . .
(b) The requirements are met if, during any period during which required minimum distributions are being determined by treating the beneficiaries of the trust as designated beneficiaries of the employee, the following requirements are met--
(1) The trust is a valid trust under state law, or would be but for the fact that there is no corpus.
(2) The trust is irrevocable or will, by its terms, become irrevocable upon the death of the employee.
(3) The beneficiaries of the trust who are beneficiaries with respect to the trust's interest in the employee's benefit are identifiable . . . from the trust instrument." In the words of Natalie Choate: "If the trust beneficiaries are 'all my living issue from time to time' the members of that class are 'identifiable' . . . .because no person with a shorter life expectancy can be added later."
(4) The required documentation has been provided to the plan administrator.
(c) In the case of payments to a trust having more than one beneficiary, see A-7 of Sec. 1.401(a)(9)-5 for the rules for determining the designated beneficiary whose life expectancy will be used to determine the distribution period and A-3 of this section for the rules that apply if a person other than an individual is designated as a beneficiary of an employee's benefit. However, the separate account rules under A-2 of Sec. 1.401(a)(9)-8 are not available to beneficiaries of a trust with respect to the trust's interest in the employee's benefit.
(d) If the beneficiary of the trust named as beneficiary of the employee's interest is another trust, the beneficiaries of the other trust will be treated as being designated as beneficiaries of the first trust, and thus, having been designated by the employee under the plan for purposes of determining the distribution period under section 401(a)(9)(A)(ii), provided that the requirements of paragraph (b) of this A-5 are satisfied with respect to such other trust in addition to the trust named as beneficiary.

Why Distribute an IRA through a Trust? You need a good reason. Examples:
*Single parent with a terminal illness, concerned for minor children.
*Survivors with special needs, disabilities, addictions,
*Subsequent marriage of plan participant who has children from a previous marriage
*IRA assets so large that professional direction is required to respond to uncertain future situations

Pitfalls in Will and Trust Documents:
* Marital trusts with a pecuniary formula could cause immediate realization of income if an IRA is left to the trust. Have you taken special precautions to protect spousal rollover rights?
*Simultaneous death clause in IRA plan participant's Will would not be enough to direct his IRA assets to spouse's estate if the couple died simultaneously. Have you checked the plan, or beneficiary designation forms to cover simultaneous death?

*Tax allocation clauses. The common law said that taxes attributable to the probate estate are a burden on the residue in the absence of a direction to the contrary in the decedent's Will. Mass. Gen. Laws ch. 65A, §5, (4), modifies the common law, and says that taxes are to be "equitably apportioned among and charged to and paid by the recipients and beneficiaries of property or interests included in the measure of such tax and passing or arising otherwise under the will of the decedent or by virtue to any such trust . . ." If the Will and/or Trust say that estate and gift taxes are to be paid from the residuary of the Will or Trust, and IRA benefits are distributed outside the probate estate or the trust, the designated beneficiaries of the IRA won't pay their share of the transfer tax burden. Is this what the testator intends?

*Trust accounting vs. tax accounting: The entire value of an IRA that passes to a trust is considered trust principal, but the IRS considers a large part of that principal to be federally taxable income. Does the document explains how the trust or trust beneficiary will bear the income tax burden?

*Paying Estate Expenses and Taxes from the Trust. If a Trustee uses IRA distributions to pay estate taxes and expenses, that could be construed as allowing benefits to pass to the participant's estate. Does the Trust document include language preventing this, or allowing the trustee to withdraw enough money to pay the bills, before the beneficiary Designation Date?

Further Reading:Natalie Choate Life and Death Planning for Retirement Benefits
Brown & Campbell, Should Planners Recommend Trusts as IRA Beneficiaries?, Journal of Financial Planning (October, 2003)
Thomas Murphy, The New And Final Regulations For Minimum Distributions From Retirement Plans -- The 15 Essential Points (2002)

Circular 230 (Federal Register Format