The taxable estate is reduced as a result of the payment of the income taxes at the time of conversion.. As an example, on a $1,000,000 Roth conversion, the payment of a $350,000 of income taxes results in a federal estate savings of $157,500 at a 45% federal estate tax rate.
An IRA, whether or not converted, will generate estate taxes in a taxable estate. An irrevocable life insurance trust should be established to generate a (tax-free) fund to replenish the estate for the estate taxes paid.
Heirs, including children and grandchildren, will receive income tax-free, in contrast to a traditional IRA where the income will be taxable to the heirs.
A non-spouse beneficiary can take out distributions either by the end of the year of the fifth anniversary of the death of the Roth owner or the beneficiary can take the money out over his or her life expectancy. The money compounds tax-free and the distributions are tax-free.
Under Illinois law (and the law of most states), inherited IRA accounts – assets passing to someone other than the surviving spouse – are not exempt from seizure by creditors because of divorce, bankruptcy, creditor’s claims, drug, alcohol or gambling abuse, or financial immaturity. The strategy to protect IRA assets from these claims is an IRA inheritance trust.