There are certain milestones in your life that create a strong need for an updated estate plan. When you get married or divorced, when you have children, when you retire, and when you have grandchildren. When working with an attorney, you should check in with them whenever one of these significant life occasions occurs to see if your estate plan needs to be updated. If you forget to check in, don't worry, your estate planning attorney should be keeping in contact with you after your plan is signed (however, if they've disappeared and you aren't even sure how to find them, that's also a good sign to check with an estate planning attorney to see if your plan needs any updates).
When planning for your grandchildren, the tactics we've used for years are changing a bit after the government instituted new rules in 2020 surrounding retirement accounts. By now, your financial advisor has hopefully reviewed these changes with you so that you understand how they can affect your investment portfolio and your long-term planning goals (and like your attorney, if you haven't heard from your financial advisor in a while, it's a good sign that you may need a new one of those as well...).
If not, or if this is your first time creating an estate plan with your grandchildren in mind, there are a few changes to the law that you should understand as you craft your plan.
Using Retirement Accounts
This week, the Wall Street Journal has a good article looking at the effect these law changes have on our estate planning for grandchildren. Prior to the 2020 changes, it was common that grandparents could use a beneficiary designation on their retirement accounts as a way to pass on a legacy to their grandchildren. Their grandchildren could hold on to those funds for years and have access to them when they needed them. Many grandchildren would "stretch" any required distributions out over their lifetimes.
However, the 2020 changes to the law now requires that you need to take withdrawals from the retirement accounts over a 10-year period, which, if your grandchildren are already adults and making their own incomes, can cause quite a taxable impact on them. This change does not apply to your spouse if they are inheriting your retirement accounts, but can cause your children to start to pay taxes even before they're 18 if they are forced to take their distributions.
One tactic that the Wall Street Journal describes is to convert a traditional IRA into a Roth IRA, which will allow the beneficiaries to inherit the money tax-free, instead of owing income taxes on the distributions, because the Roth IRA contributions are made with money that has already been taxed. It also allows the money to grow tax-free while it is in your Roth IRA.
Creating a 529 Account
One common way that you can begin to contribute for your grandchildren is by setting up 529 accounts for their educational expenses. A 529 plan offers tax-deferred growth and the money is not taxed when it is used for educational expenses. You can even transfer the money in the account to other relatives. Currently, you can donate $15,000 per grandkid in a year without gift-tax issues. If you are married, that amount rises to $30,000. Each state has its own 529 plan and some of them even offer a tax benefit if you are a resident of that state and are contributing to the plan. One drawback of this approach can be that the money in the account can count towards the grandchild’s finances for FAFSA purposes.
Using a Trust Instead
One of the primary ways that you can leave money for grandchildren is in a trust. This allows you to have a bit of control over how much access they have to the money as opposed to just a large sum of money suddenly being given to an 18 year old. Instead of just giving them money, a trustee is involved who can manage the money for them and distribute it to them for certain purposes. It's common in my practice to see clients leave behind money in trust for grandchildren for educational expenses and wedding expenses and sometimes even a down payment on a home.
If you'd like to have your retirement accounts be placed into a trust for your grandchildren, it will require a bit more work and there will be some complications with the new required distribution rules from 2020. However, it's still a good option if you want to make sure that your 18 year old grandchild doesn't suddenly have access to a large sum of money as they start their first year of college.
There are a variety of options you can explore if you'd like to leave money to your grandchildren. It's important that you discuss your thoughts and goals with your estate planning attorney and your financial advisor so that they can help you create a plan that aligns with your desires.
Do You Need an Estate Planning Attorney?
If you or your family want to set up a trust or create or update your estate plan, let's schedule a Legal Strategy Session online or by calling my Edina, Minnesota office at (612) 294-6982 or my New York City office at (646) 847-3560. My office will be happy to find a convenient time for us to have a phone call to review the best options and next steps for you to work with an estate planning attorney to get your plan prepared and implemented.
