Estate planning for retirement assets is vital to many clients. The topic is so broad and complex that a short article can barely scratch the surface. So instead of taking a mile-wide view that won't really cover much, we've picked a handful of issues that your clients are likely to misconstrue, or which might have particular relevance in our turbulent economy.

Trap: Calculating RMDs

Calculating required minimum distributions (RMDs) from a client's IRA is pretty easy to do. You need to know your client's age and the balance of the plan. Then, you look up the divisor in the appropriate IRS table. Just be careful of the mismatch of asset and age calculations. For the balance in the plan you use the value at the prior year-end—so for 2008 you'd use the 12/31/2007 account balance. To determine your client's age, look forward to the age the client will be at 12/31 of the current year. Age springs forward, assets fall back.

Tip: Delay Distributions

For different retirement plans, your client might have different required beginning dates (RBDs). For example, if your client has a corporate plan (401(a), 401(k) or 403(b)), and is working past age 701/2, he or she can use his or her actual retirement date—or age 701/2, whichever is later—to determine the RBD. If your client opted to continue working in light of the current economic situation, and perhaps deferred retirement at your recommendation, he or she can wait until April 1 of the year following the year he or she leaves the office for good.

But what if your client merely consulted, say, five to 10 hours a week for their former employer in order to keep some income coming in: Can they continue to defer taking RMDs? It's not really clear how to define "retired" for purposes of this test, so there is no solid answer.

This special rule, though, does not apply if your client owns more than 5% of the entity. A "5% owner" must use the age 701/2 general rule, regardless of when he or she retires. There are attribution rules which may treat your client as owning stock that certain related people actually own. If there is any change in ownership, there are rules that guide you as to what date at which the more than 5% ownership test is measured.

For a regular IRA, your client must start his or her RBD at age 701/2, regardless of whether or not he or she continues to work. Many clients believe if they are working and have deferred starting their company plan distributions, they can also defer RMDs from their IRA. That misconception could trigger a 50% penalty on the IRA RMD!

Trap: RMD to an Estate

If your client dies before taking the RMD for the year of death, who is supposed to take it for that year? The executor may assume it is his or her responsibility. But, in fact, it is actually the beneficiary of the IRA that must withdraw the RMD—not the estate. Furthermore, the beneficiary must be sure to complete the withdrawal before Dec. 31 of the year of death.

Trap: Tax on Inherited IRA Distributions

Say your client dies and his or her IRA is included in the taxable estate. That could subject it to a 45% estate tax! Worse yet, consider the impact of estate-tax legislation introduced in January 2009 by Representative Earl Pomeroy of North Dakota, with the snappy title "Certain Estate Tax Relief Act of 2009" (H. R. 436). This would permanently freeze the estate-tax rate at 45%, phase out the $3.5 million exemption for estates over $10 million, and eliminate the state death-tax credit. Bottom line, clients living in high estate-tax states could face a marginal estate-tax rate over 60%!

But since an IRA represents income upon which the decedent never paid income tax (ignoring nondeductible contributions), this is called income in respect of a decedent—IRD, just to give you another acronym—and is subject to income tax as the heirs withdraw it. So the 40% or so that is left after the marginal estate-tax bite gets whopped with a 35% or so income tax rate (which may well be increased once the U.S. economy has a discernible pulse).

The tough tax result above is mollified through a deduction on the income tax return of the beneficiary. While this can clearly take away some of the tax sting, there is yet another complicated trap that your clients could fall into.

Who pays the income tax on the IRD generated by the retirement account? The beneficiary who inherits the retirement plan recognizes the income (i.e., reports the IRD) and pays the income tax attributable to that IRD upon receipt of distributions from the plan. The IRD deduction for the estate tax paid on this retirement account inures to the benefit of this heir. That is a great result, because it can offset the income tax due on the plan dollars as they are withdrawn. So far so good.