Turn Retirement Savings Into a Powerful Wealth-Building Device

Here's an idea that can keep on giving to children and grandchildren long after the gift-giver, perhaps you, has moved on to that great stock market in the sky. It's called the Stretch IRA.

'Stretch' refers to setting up an IRA so that required distributions, or withdrawals, may continue for many years after the IRA owner has died. By stretching out distributions, IRA beneficiaries may build a tidy nest egg that could grow tax-free and provide a regular source of income for decades.

Better Benefits
The Stretch IRA benefits those who want to preserve the account's tax-favored status when it is transferred at death, who want to defer taxes as long as possible, and who want to minimize taxes on withdrawals. A Stretch IRA leaves more for heirs and less for the IRS.

New rules that apply to tax-deferred retirement accounts make it simpler and more beneficial to stretch out distributions by increasing the amounts that may be contributed and the time assets may remain in these plans. These factors make the Stretch IRA a particularly attractive approach to building intergenerational family wealth.

One of the great things about the Stretch IRA is that you don't have to give up anything (except a little prep time) to get it. If a beneficiary needs to tap the IRA account for additional funds beyond any year's required minimum distribution, she may do so. Of course, this will leave less in the account for later, but she may continue to stretch out her distributions over the full distribution period while there is money remaining in the account.

Any type of IRA'the traditional IRA, the Roth IRA, or the Simple IRA can become a Stretch IRA. Even 401(k) or 403(b) accounts may either be stretched (although few plans permit it) or converted into Stretch IRAs.

The Basics
First, a few important terms.

IRA. An IRA is an 'Individual Retirement Arrangement.' IRAs have tax advantages that make them attractive as long-term investment vehicles. Those tax advantages are offset, however, by a few disadvantages. One is that IRAs are taxed at higher income tax rates. A second is that at certain times the IRA owner or the owner's beneficiaries are required to make withdrawals, or take distributions.

Beneficiaries. A beneficiary is any person or entity the owner chooses to receive the benefits of the IRA after he or she dies. Without naming one or more human beneficiaries, the IRA may go to the owner's estate and the full potential stretch could vanish.

Required minimum distributions (RMDs). The IRS does not permit funds to remain in retirement accounts indefinitely. Eventually they must be distributed, or withdrawn. The amount that must be distributed each year to avoid severe tax penalties is called the 'required minimum distribution.'

Age	Plan Value at Start of Year	Required Minimum Distribution	Federal Income Tax (35%)	After-Tax Income	Cumulative Net Distribution
50	1,000,000	29,240	10,234	19,006	19,006
55	1,269,508	43,476	15,217	28,260	140,314
60	1,567,961	64,792	22,677	42,115	320,935
65	1,860,149	96,883	33,909	62,974	590,652
70	2,068,408	145,663	50,982	94,681	995,264
75	2,036,113	221,317	77,461	143,856	1,607,280
80	1,454,208	346,240	121,184	225,056	2,551,870

This example is provided for educational purposes only and does not represent actual results.
Refer to the Legal Disclosures and consult your advisor for more information.

Do The Right Thing
The stretch comes into play when the IRA owner has named a beneficiary and then dies. The beneficiary has several options open to her. One is to take the money and run?not a smart move, as the entire amount will lose its special tax-favored status and be taxable at the beneficiary's income tax rate. That, plus forgone tax-favored gains, can devastate what may have been a potential fortune.

An alternative is to stretch the required distributions out for as long as possible. In this way the inheritance retains its tax-deferred status and only the distributions will be taxed at the beneficiary's income tax rate unless it's a Roth IRA, in which case the distributions will not be taxed at all! The result is that the beneficiary can stretch out a taxdeferred inheritance into a steady income stream for much or all of his remaining life. The benefits could be substantial, and the younger the beneficiary, the greater the potential benefits.

Build Family Wealth
Suppose an IRA owner dies, leaving and IRA balance of $1 million. Her beneficiary is her son, who is age 50 when required to take minimum distributions from the account. His RMD for the first year on a $1 million IRA balance is $29,240.

Assuming that investments in the IRA account return 8% a year and RMDs are taken at the end of each year, the beneficiary's RMDs grow each year, reaching $346,240 when he is 80 years old, with cumulative after-tax distributions in excess of $2.5 million (refer to the table above). Should he live to age 83, his required distribution would reach $487,759, and at the end of the RMD period he would have received cumulative after-tax distributions of nearly $3.5 million.

Beneficiary are required to take minimum distributions from Roth IRAs as well, but Roth IRAs have an additional and highly significant benefit? distributions are untaxed. Using the same assumptions as before but with a Roth IRA, our beneficiary could receive cumulative tax-free distributions in excess of $5 million over 35 years.

With either IRA, the younger the beneficiary, the greater the stretch and potential wealth creation.

The To-Do List
If you like this Stretch IRA idea, it may not happen unless you act. Here's the first few steps.

• If you are or will be a beneficiary to someone's IRA, the clock is ticking. Get assistance and get educated. The choices you make now could mean the difference between your financially comfortable future and just a future.
• For every retirement plan that you own, name beneficiaries and contingent beneficiaries. If you did this awhile ago, check again to make sure your ex-husband is not still listed as a beneficiary.
• For IRAs, choose beneficiaries who are likely to appreciate and make use of the stretch. Taxable assets are a better fit for those heirs who are likely to tap their inheritances quickly.
• Most non-IRA plans [401(k)s, 403(b)s, etc.] do not permit a stretch distribution. Owners of these plans need to evaluate their options, including converting plans to IRAs to enable the stretch.
• Educate your beneficiaries. Let them know that you intend for them to stretch your IRA when they inherit it. Show them (or have your advisor show them) the benefits of the stretch and how to do it.
• If the bulk of your wealth is in retirement plans or if your estate is likely to be heavily taxed at your death, get qualified help. There are ways to reduce taxes and pass more on to your heirs.
• This whole area of naming beneficiaries and complying with IRS regulations and retirement plan rules is fraught with pitfalls, and policies are ever-changing. Get a second and even a third opinion to ensure that you have everything in order. If you have special needs or considerations not specifically addressed by the Stretch IRA, or if your estate could be heavily taxed, discuss with your advisors how to best address these issues.

A Review
In sum, the benefits of the Stretch IRA include:

1. Taxes are deferred over the beneficiary's expected lifetime.
2. The beneficiary may accelerate distributions if additional funds are needed.
3. The distributions are taxed at the beneficiary's tax bracket over his life expectancy.
4. If estate taxes were paid on the IRA account, an additional tax deduction that further reduces the beneficiary's taxes on distributions is available.
5. Should the beneficiary die before taking all his RMDs, his heirs may continue to stretch out distributions on his schedule.

If you truly care about your heirs, help them now to make the most of their inheritance. If you care about yourself, make the most of yours.