Leaving an inheritance in trust can provide valuable protection.
A trust may help shield assets from creditors, divorce, poor financial decisions, or a beneficiary who is simply not ready to manage a large sum of money. But when the asset being protected is a traditional IRA, the trust can also create an income-tax problem that families may not anticipate.
Consider a mother who leaves a $1 million traditional IRA to a trust for her adult son. She may be concerned about his ability to manage a large inheritance, the stability of his marriage, exposure to creditors, or simply the risk that the money could be spent too quickly. Rather than giving him the entire account outright, the trust allows a trustee to retain withdrawals and distribute money over time as appropriate.
The trust may accomplish exactly what she intended: continued oversight and protection.
The potential tax issue begins when money leaves the IRA.
Traditional IRA distributions are generally taxable as ordinary income. Most adult children who inherit an IRA are also subject to a ten-year distribution period, meaning the account generally must be emptied by the end of the tenth year after the original owner’s death. Depending on when the owner died, annual distributions may also be required during that period.
If an IRA distribution passes through the trust to the son, the taxable income will generally follow the distribution and be reported by him. But once the money reaches him, it may no longer receive the same continuing trust protection.
Alternatively, the trustee may retain the IRA withdrawal inside the trust. That preserves more control, but it can expose the income to the compressed tax brackets that apply to trusts.
For 2026, a trust reaches the top 37% federal income-tax bracket once taxable income exceeds just $16,000. By comparison, individuals do not reach the highest bracket until their taxable income is much higher.
Suppose the trust withdraws and retains $100,000 from the inherited IRA. Using the 2026 federal trust brackets, the income tax could be approximately $34,900, before state taxes and other considerations.
Now suppose the same $100,000 were distributed to the son and fell within his 24% marginal bracket. The incremental federal tax might be closer to $24,000.
That is a difference of approximately:
$10,900 in one year
If similar differences occurred repeatedly during the ten-year distribution period, the additional tax cost could potentially exceed $100,000.
This does not mean that naming a trust as an IRA beneficiary is necessarily a mistake. The added protection may be worth the tax cost when there are genuine concerns involving creditors, divorce, addiction, disability, financial immaturity, or family conflict.
But families should understand the trade-off.
Different trust provisions can produce very different outcomes. A trust that requires IRA withdrawals to pass directly to the beneficiary may reduce the trust-level tax problem, but it also releases the assets from ongoing protection. A trust that retains the withdrawals may provide stronger protection while producing a larger tax bill.
Better planning may also involve coordinating which assets go into the trust. Roth IRA assets, taxable investments, and traditional retirement accounts each carry different tax characteristics. Lifetime Roth conversions or different beneficiary allocations may help balance protection with tax efficiency.
At Hanover Advisors, we help families evaluate the financial consequences of estate-planning decisions and coordinate those considerations with their attorneys and tax professionals. A trust should not only protect an inheritance—it should be designed with an understanding of how much of that inheritance the beneficiary may ultimately keep.