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When it comes to estate planning in a second marriage, there can be competing goals — making sure your current spouse is provided for and ensuring assets go to your children from a previous marriage.
Luckily, there’s an estate planning tool available to address this challenge — the qualified terminable interest property trust, or QTIP trust.
The ‘Brady Bunch’ safety net
About one-third of married Americans age 55 and older are in a second marriage. In a typical second marriage, leaving assets outright to a spouse can be risky.
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If you pass away first, those assets become your spouse’s property. He or she could leave them to their own children or even a new partner.
A QTIP trust solves this by splitting the interest in your property:
- For your spouse. They receive all the income generated by the trust assets for the rest of their life. These trusts can be drafted in such a way that principal can also be used for the benefit of the spouse under certain circumstances.
- For your children. They’re named as the remainder beneficiaries. They receive the principal only after your spouse passes away.
Key benefits at a glance
- Control. You, not your surviving spouse, decide where the remaining assets go
- Tax deferral. Even though your spouse doesn’t own the assets outright, the IRS treats the QTIP as marital deduction property
- Asset protection. Because the assets are held in trust, they’re generally shielded from your spouse’s future creditors or a litigious new partner
Passing an IRA to your children via a QTIP
Using a QTIP trust as the beneficiary of an IRA is a complicated strategy, and it requires precision to avoid a massive tax bill.
Normally, naming a trust as an IRA beneficiary can trigger accelerated distributions, forcing the entire account to be emptied (and taxed) within 10 years.
To use a QTIP for an IRA without losing the tax advantages, you must follow strict IRS see-through or conduit rules:
1. The ‘income’ requirement.
To qualify for the marital deduction, the IRS requires that your spouse receives all income from the trust.
However, for an IRA held inside a trust, the IRS mandates that the spouse must receive the greater of:
- The income generated by the IRA assets (dividends, interest)
- The required minimum distribution (RMD) calculated on your surviving spouse’s life expectancy
2. The trustee’s role.
Your trust document must explicitly state that the trustee has the power to request funds from the IRA and pass it directly to your spouse. This ensures the IRA remains a “qualified” asset and maintains its tax-deferred status.
3. Protecting the principal for the kids.
While your spouse gets the annual “income” or RMDs to live on, the bulk of the IRA stays protected within the trust. When your spouse passes away, your children from your first marriage inherit the remaining IRA balance.
Is a QTIP right for you?
A QTIP trust is more expensive to set up and maintain than simply transferring assets by a will or beneficiary designation. You’ll need an independent trustee to handle the annual trust tax returns and income distributions.
However, if you have significant assets in an IRA and want to ensure your children from an earlier marriage are protected without leaving your surviving spouse empty-handed, it’s often the best solution.
With proper planning, you can provide for your surviving spouse and ensure your assets ultimately pass to your children.
