The Nightmare For Beneficaries Transferring an IRA on Death

U.S. retirement accounts, such as Individual Retirement Arrangements (IRAs) and Roth IRAs, are excellent wealth-building and tax minimization tools that we use at Steele Wealth Management for planning with our cross-border clients. Our cross-border IRA account owners can name beneficiaries to inherit an IRA after they pass away, similar to naming beneficiaries for Canadian registered plans. This article discusses the nightmare and complexity involved with transferring an IRA after death when the account holder lives outside the United States. The team at Steele Wealth Management are licensed and regulated in both Canada and the U.S. and work closely with clients to translate their personal needs into a strategy for their cross-border accounts.

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Advantages of Naming Beneficiaries on an IRA

After considering a client’s specific circumstances, we generally recommend that beneficiaries be named on an IRA because of the benefits this provides. The named beneficiary designation controls who receives the IRA after death and is separate and distinct from distributions made in a will. This is a significant advantage as the IRA does not form part of the estate, which avoids provincial and state estate administration procedures and probate fees.

A further benefit of having a named beneficiary is that the value of the IRA account is not included in taxable income at death in Canada or in the U.S. The beneficiary pays tax on withdrawals in future years made from the inherited IRA on their own tax return.

The Complexity of Transferring an IRA on Death

Transferring a Canadian registered plan account (RRSP or RRIF) to a named beneficiary is a relatively simple and quick procedure. The estate executor provides Raymond James with a copy of the death certificate, and the account is distributed according to the instructions provided in a letter of direction from the beneficiaries. In contrast, the process to transfer a U.S. retirement account to named beneficiaries is complex for account owners who live outside the U.S. at the time of their death. This impacts many of our cross-border clients who reside in Canada while owning IRA and Roth IRA accounts. The Nightmare Procedures Required to Obtain the Magic Transfer Certificate

Despite being a named beneficiary, keep in mind that additional action may be required to inherit an IRA account. Where the IRA account owner lived outside the U.S. at the time of their death, it is mandatory for all financial institutions to receive a transfer certificate (Form 5173) from the U.S. Internal Revenue Service (IRS) before releasing IRA assets to the beneficiaries. The certificate produced by the IRS details the deceased person’s assets and provides a release to the financial institution. The IRS mandates that Raymond James (USA) Ltd. (RJLU) must receive the transfer certificate before transferring assets from the IRA. Before RJLU receives the clearance from the IRS, the estate beneficiaries do not have access to the assets and cannot manage the investments or diversify the investment portfolio to protect against market risk.

Exceptions to the Transfer Certificate Requirement

The IRS allows two exceptions to the transfer certificate requirement:

• A transfer certificate is not required for assets administered by an executor or administrator appointed, qualified, and acting within the United States. This exception applies to both U.S. citizen and non-U.S. citizen deceased persons.
• Instead of the transfer certificate, the estate administrator can provide a notarized Transfer Certificate Affidavit. This option is only available for a deceased person who:
  • Was never a U.S. citizen
  • Was never a resident of the U.S.
  • Was never a U.S. green card holder
  • Never filed any U.S. gift tax returnsAND their estate holds less than $60,000 in U.S. situs assets (including U.S. securities in Canadian accounts)

No Exceptions Apply? Here Are the Shocking, Complicated Steps

If the estate does not meet either of the exceptions, the estate executor must follow the applicable, complicated steps to request a transfer certificate from the IRS. The filing requirements differ based on the deceased person’s status as a U.S. citizen or as a non-U.S. citizen, as follows:

Deceased Is a U.S. Citizen The steps to follow depend on the worldwide asset value of the estate:

• When the worldwide asset value of the estate exceeds the deceased’s remaining lifetime gift and estate exclusion:

The estate administrator is required to file:

1. Form 706 U.S. estate tax return (filing deadline is 9 months after death)
2. List of the value of deceased’s U.S. assets
3. S. Department of State DS-2060 (Report of the Death of an American Citizen) or government-issued death certificate with U.S. passport/proof of U.S. citizenship

• When the worldwide asset value of the estate does not exceed the deceased’s remaining lifetime gift and estate exclusion:

The estate administrator is required to file:

1. Last will and testament and codicils
2. S. Department of State DS-2060 (Report of the Death of an American Citizen) or government-issued death certificate with U.S. passport/proof of U.S. citizenship
3. Affidavit listing details of value of worldwide assets and all taxable gifts made by deceased after 1976
4. Copy of the inventory of assets filed with probate authorities (U.S. and foreign)
5. Copy of the death tax or inheritance tax return, if applicable, or deceased’s last income tax return or wealth tax return

You can find the IRS’ instructions in the link below:

https://www.irs.gov/businesses/small-businesses-self-employed/transfer-certificate-filing-requirements-for-the-estates-of-nonresident-citizens-of-the-united-states

Deceased Is Not a U.S. Citizen The steps to follow depend on the U.S. asset value of the estate:

• When the U.S. asset value of the estate exceeds $60,000:

The estate administrator is required to file:

1. Form 706-NA U.S. estate tax return (filing deadline is 9 months after death)

• When the U.S. asset value of the estate does not exceed $60,000:

The estate administrator is required to file:

1. Last will and testament and codicils
2. Death tax or inheritance tax return, if applicable, from the country where the deceased resides
3. Government-issued death certificate
4. Affidavit listing details of the value of all U.S. assets and citizenship/residence history

You can find the IRS’ instructions in the link below:

https://www.irs.gov/businesses/small-businesses-self-employed/transfer-certificate-filing-requirements-for-the-estates-of-nonresidents-not-citizens-of-the-united-states

Implications of the IRS Transfer Certificate Requirements – The Waiting Is the Hardest Part as IRA Beneficiaries May Need to Wait Two Years to Access Funds

It is important for our cross-border clients to understand the cost and time that will be required from their estate beneficiaries to access their inheritance due to the requirement to procure the transfer certificate. It is estimated that the wait time, for the IRS to process transfer certificate requests, is 18 to 24 months after the IRS receives all the necessary documentation. Specifically, this means that the IRA beneficiary may not have access to the funds for two years after death. This may create a situation where the beneficiary (particularly if this is a spouse) does not have adequate cash flow during the waiting time. As well, the estate beneficiaries do not have access to the assets and cannot manage the investments or diversify the investment portfolio to protect against market risk.

Planning Alternatives

Appoint a U.S. Executor

The simplest way to avoid the transfer certificate requirement is to fall into the exemption rules. Appointing an executor who is acting within the United States to administer U.S. assets is a planning strategy that will ensure the estate can receive the exemption. This would expedite the inheritance of the IRA assets by the named beneficiaries. This is the strategy regularly used by our cross-border clients who have a relative who resides in the United States.

Drawdown the IRA

Another planning strategy for IRA owners to consider is mindfully withdrawing funds prior to mortality and maintaining the withdrawn funds in a non-registered investment account. There may be a cost to this planning alternative, as the extra withdrawals may accelerate income tax during life. However, with appropriate planning, the tax cost can be minimized to be less than the cost of procuring the transfer certificate. This is the strategy regularly used by our cross-border clients who are concerned that their beneficiaries will need the cash flow provided by the IRA shortly after death, as is often the case with beneficiaries who are spouses.

CONTACT US FOR HELP

As one of the leading cross-border investment advisor teams, Steele Wealth Management can help review your current IRA estate strategy and discuss how your beneficiaries will handle the IRA assets. We understand the challenges involved with this mandated IRS process and have experience with advising the beneficiaries of deceased clients. Our proficiency in managing wealth in both countries and our experience with complicated situations provide us with the expertise to help. We offer a consolidated wealth management solution and coordinate entire portfolios of assets to keep our clients compliant with their obligations in both Canada and the U.S. At the same time, we keep our clients on track to achieving their vision and financial goals.

Click here for more information on our cross-border services.