For most of us, helping our kids is a no-brainer; leaving a legacy is a high priority for many retirees, but figuring out how to do that isn’t as simple as drawing up a will. In fact, without proper planning, leaving an IRA to a child who’s more of a saver could cost them more in taxes than if they spent the inheritance quickly! (More on that later.)
Think about it like this: do you remember letting the kids “help” with house projects when they were little? Not so helpful. But, at least you were making memories, and cleaning up broken eggs or nursing a thumb that got whacked by a hammer is one thing. Being pushed into a high tax bracket with a taxable inheritance is another. The point is that the “help” you offer to your children or grandchildren should actually be helpful, not burdensome. Let’s talk about leaving a legacy for your children that makes their (and your) life easier, not harder.
Life Insurance: Better Than a Large Gift
It used to be that life insurance was just used to ease the financial burden on families after the primary breadwinner passed. But, it has grown to be much more, with new offerings and options that we like to refer to as Modern Life Insurance™. Nowadays, designing the right kind of policy can give you access to one of the most efficient and underutilized tools in wealth transfer planning!
Two of the top advantages are the tax-free nature of death benefits and the ability to leave an inheritance that bypasses probate. This immediate liquidity can be a game-changer for your loved ones, especially if you’re leaving other, taxable assets to them, like real estate or IRAs. Funds from a death benefit can be used to cover those tax bills, alleviating stress and financial pressure.
Now, compare that to other ways you might help, like gifting $100,000 to pay for college or help with a home down payment. Once that money is gifted, it’s gone. And if your financial situation changes, due to long-term care needs, inflation, or market loss, you can’t reclaim it. If you use those funds for life insurance instead, you can avoid putting yourself in a bad financial situation (potentially becoming a burden for your loved ones) without sacrificing the possibility of leaving a tax-advantaged legacy.
The Problem With Inherited IRAs
Thanks to the SECURE Act 2.0, non-spouse beneficiaries must fully deplete inherited IRAs within 10 years. Unfortunately, the timing often lines up with their highest earning years. That means your kids may owe tens (or hundreds) of thousands in taxes on your retirement savings, which will be even more costly if you were a disciplined saver.
But wait, there’s more! Let’s say you leave $1M in an IRA to your child. If they withdraw and spend the entire $1M in one year, assuming a Federal Tax Rate of 37%, they’ll owe $370,000 in taxes.
However, let’s say they inherited your saving habits and decide to let the funds grow untouched for as long as possible. By the end of 10 years, the inherited IRA has doubled, and now they have to withdraw all $2M. If taxes remain at the scheduled 39.6% federal tax rate, they now owe $800,000 in taxes. Not only are they paying a higher percentage, but that’s only $200k of growth on $1M, after 10 years of waiting. Not a very good reward for disciplined financial habits!
So, what are your options? You may be tempted to reduce their future tax liabilities by gifting cash to help them now, but that still doesn’t solve the tax problem, and it could reduce your own savings too soon. Instead, consider using life insurance to offset the tax bill, or…
Make the Most of Today’s Estate Tax Laws with Roth Conversions and Annuities
Under the recently passed One Big Beautiful Bill Act (OBBBA), the lifetime estate and gift tax exemption was permanently raised to $15 million per individual (or $30 million per couple). Now, if we know anything about taxes and especially politics, it’s that things can and very well might change sometime down the road. The key is to take advantage of current opportunities while creating a long-term strategy that assumes changing tax rates.
Rather than gifting large amounts outright (which count against your lifetime exemption), we recommend tools like:
Roth Conversions: Pay taxes now while rates are historically low, then pass on tax-free growth and withdrawals to heirs.
Non-Qualified Annuities: While not tax-free, they offer tax-deferred growth and can provide structured payouts to beneficiaries, helping preserve wealth and manage spending.
Teach the Next Generation to Fish
No matter how much planning you put into leaving a legacy for your children, the impact will be limited by how well they know how to manage their savings. Imagine what your legacy could mean to their retirement dreams, and your grandchildren’s future, and on and on, if you could help them use the same strategies you learned to use!
We have a common saying at Parady Financial Group: We are family. That commitment to you doesn’t just end with you, because your financial planning doesn’t end with you. We regularly host free educational events through The Parady Learning Lounge®, including our Retirement Wealth Summits. We would love to see you, your kids, and even your grandkids there, so we can help you establish a legacy that lasts through the generations. Helping your kids shouldn’t come with a tax burden; we can’t wait to help you find a better way.
