Community Property and Qualified Retirement Plans

Community Property and Qualified Retirement Plans

John and Mary live in a community property state. They have been married for many years but they each have children from prior marriages. They have an A/B/C or QTIP Trust which divides and distributes the assets between the two separate families when the second spouse has died.

John has $1,000,000 in his qualified retirement plan and it is community property because all of the contributions to it were from earnings he made during his marriage to Mary. Mary would like her half of John’s retirement plan to go to her children when both John and Mary have died. But there are federal court cases that say that if Mary dies before John, her community property interest in John’s retirement plan disappears. This means that after Mary’s death, John can use the retirement plan as he wishes and he can change the beneficiary to his own children (thus excluding Mary’s children).

If Mary divorced John, she could get a qualified domestic relations order which would allow her to move half of John’s retirement plan into her IRA, so that she could designate her own children as the beneficiaries of that new IRA which would enable her children to receive that IRA at her death. But Mary does not want to divorce John.

One solution would be for Mary to establish an irrevocable insurance trust for the benefit of her children. John and Mary could agree to gift to that trust enough money each year so that the trust could buy and maintain an insurance policy on Mary’s life. The policy would be whole life or universal life so that the premiums would not jump up to an unaffordable level at a later date. If Mary died before John, this policy would compensate her children for the loss of  her community property interest in John’s retirement plan.

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About randyspiro

I am a super lawyer in California with dual specialization in Estate Planning and Taxation.
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