Contrary to the marketing messages you hear from Wall Street, retiring successfully is about much more than reaching some “magic number” in investment savings.
It’s also about protecting that money from retirement risks, such as taxes and long-term care costs, and — if it’s important to you — being able to leave something behind for your loved ones.
Unfortunately, these aspects of planning are frequently overlooked as pre-retirees stay laser-focused on their one goal: stashing away as much as possible in IRAs, 401(k)s and other investments. It isn’t until they’re actually retired that many realize their money might not last as long as they thought — often because one spouse is in failing health and will soon need extra assistance.
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According to the annual Genworth Cost of Care Survey, in 2019, the median monthly cost of a semi-private room in a U.S. nursing home was $7,513. A private room was $8,517. Those kinds of costs can strike a mighty blow to even the strongest budget.
How an asset-protection trust can help
The good news is there are strategies that can get unprepared retirees back on track.
One tool to consider is an asset-protection trust, which can help shield you and your spouse from the potentially significant costs of long-term care and, later, your children’s inheritance from an expensive probate process or higher income taxes. Our firm uses what’s called a Castle Trust, a unique, highly specialized irrevocable trust that allows you to maintain more control than most traditional trusts offer. You and your spouse can still serve as trustees, manage the assets, receive income and pay income tax the way you normally do.
How does it work for long-term care protection? Once you move your assets into an irrevocable trust, you’re effectively depleting your estate of disposable assets, a move that eventually will allow you to use Medicaid assistance to help pay for your basic long-term care costs. But you won’t be without additional resources: The trust can still provide you with some income to improve your quality of life. Or for a married couple, if one spouse needs long-term care, the other spouse won’t become completely impoverished while paying for that care.
The amount of assets and income you can maintain and still qualify for Medicaid varies from state to state. And Medicaid has a five-year “look-back” period to determine if there have been any violations of the rules regarding the spending-down or transfer of assets — so this strategy requires some time to be effective. But once you’ve made it past that five-year period, everything inside the trust should be protected.
New laws mean enhanced possibilities
Thanks to two new laws, the Tax Cuts and Jobs Act of 2017 and the SECURE Act of 2019, the timing has never been better for considering moving certain assets to a trust.
Some assets are definitely better suited for a trust than others — for example, a residence or a life insurance policy with significant cash value can be excellent options. But if you’ve built up a large amount of money in a qualified retirement plan (a 401(k) or an IRA) things get more complicated. Remember: Uncle Sam is going to want his share of those tax-deferred funds. That means you’ll have to move the money out of the IRA first, pay ordinary income tax on it, and then put the money in the trust.
Done all at once, that could result in a hefty tax bill. But with good planning — and making the most of the lower tax rates put in place by the Tax Cuts and Jobs Act (TCJA) — that transition can be done thoughtfully and at a lower cost over the next few years. Many advisers urge their clients to make the most of the TCJA’s lower tax rates — which are in place until the end of 2025 — by converting the money in their traditional IRAs into Roth accounts. A trust strategy also takes advantage of that tax efficiency, but it goes a step further by protecting the money from long-term care costs and other retirement risks.
Whatever assets remain to leave to your children also will be more tax-efficient. That’s definitely something to consider now that the SECURE Act has eliminated many IRA inheritors’ ability to stretch out withdrawals. Most beneficiaries are now required to empty an inherited account and pay the taxes within 10 years of their loved one’s death — which means beneficiaries who are adult children could end up having to take required minimum distributions from an inherited IRA during their highest-earning years.
An example to show how the plan could work
Let’s say we have a married couple with $900,000 in total assets — $300,000 of which is IRA money. That seems like plenty to retire on … until the husband is diagnosed with dementia. Suddenly, they have to worry about the cost of long-term care, which could be $8,000 a month or more if he needs to move into a nursing home.
One example of what we might do for them is set up a Castle Trust, and then move their nonqualified money and their house into that trust. Then we’d look at their tax bracket and — based on the tax consequences but also their personal needs — figure out how much we could pull out of their IRA each year over the next few years to move over to the trust.
Once it’s in the trust, they can still invest the money in whatever manner they wish, but it will be protected in the future from the husband’s long-term care costs — and the couple will be in a much more tax-efficient position for the rest of their retirement. Plus, whatever they leave behind someday will be more tax-efficient for their kids.
But it takes planning — and the sooner the better. Setting up a trust is complicated and must be done by an attorney. And making sure it qualifies as long-term care protection can be even more complex.
If your retirement plan doesn’t include a strategy to cover the possibility of long-term care needs, it’s incomplete. Talk to your financial adviser and an attorney about using a trust for asset protection and what it could do to reduce the risk in your plan.
The appearances in Kiplinger were obtained through a PR program. The columnist received assistance from a public relations firm in preparing this piece for submission to Kiplinger.com. Kiplinger was not compensated in any way.
Investment advisory services offered only by duly registered individuals through AE Wealth Management, LLC (AEWM). AEWM and Castle Wealth Group are not affiliated companies. Investing involves risk, including the potential loss of principal. Any references to [protection benefits, safety, security, lifetime income, etc.] generally refer to fixed insurance products, never securities or investment products. Insurance and annuity product guarantees are backed by the financial strength and claims-paying ability of the issuing insurance company. Neither the firm nor its agents or representatives may give tax or legal advice. Individuals should consult with a qualified professional for guidance before making any purchasing decisions. 543432
Kim Franke-Folstad contributed to this article.
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