A trust spells out a set of rules for the disposition of money and property held in the trust for those you’ve designated as beneficiaries. Money in a company sponsored retirement plan, known as a 401k, can be one of your biggest assets. As such, you may want to place it in a trust. While this can sometimes be done, it can be a confusing process.
Why Designate a Trust?
The whole idea behind 401k plans is that tax obligations are deferred until plan participants access their money -- presumably at retirement. Until then, the money grows tax free. But when a plan participant dies, the tax consequences fall on his beneficiaries. A trust is a way to avoid having beneficiaries hit with heavy tax burdens by having distributions spaced out over the life of the intended beneficiary so that tax obligations, too, are spaced out. Plus, by naming the trust as the designated beneficiary, the trustee can control when distributions to beneficiaries, like children, are made. This arrangement can protect the money in a 401k from becoming accessible to creditors in probate.
Designating a Beneficiary
When you sign up for your company’s 401k plan, you must provide the name and personal information of the person you want as your beneficiary. If you die before you use all the money in the plan post-retirement, the beneficiary gets the remaining cash. Not all plans allow a trust to be named as a designated beneficiary, so you must read your plan documents carefully to see if this is allowed in your specific 401k plan.
A Trust as a Person
According to IRS rules, a trust named as the designated beneficiary of a retirement plan must be a verifiable, living person. The reason for this is that this person’s life expectancy is used to calculate the minimum required distribution, or the amount of money from the plan, that must be withdrawn each year. This figure is important for taxation purposes.
To be designated a beneficiary of a 401k account, the trust must be irrevocable, meaning it can’t be revoked upon the plan participant’s death. Also, the plan participant has to provide a copy of the trust document to the plan administrator on -- though preferably before -- distributions from the plan are slated to begin.