When you lose a loved one, your first thoughts won’t be about what to do with their IRA. But if you’re a beneficiary, it is important to make wise decisions to avoid excess taxes and penalties. Due to changes to the beneficiary rules in the SECURE ACT, the following information applies to deaths on or after January 1 of this year.
Everyone: Any beneficiary can take all the account assets as a lump sum payment without incurring a 10 percent early withdrawal penalty. However, if it’s a traditional IRA, you’ll pay income taxes on the amount distributed, which might push you into a higher tax bracket. And if it’s a Roth IRA that is less than five years old, you’ll owe taxes on the earnings. If the benefactor was over the Required Minimum Distribution (RMD) age, you will need to determine whether the benefactor took their RMD for the year they died. If they didn’t, you must do so before the end of the calendar year or incur a 50 percent penalty on the RMD amount.
A surviving spouse: A surviving spouse has the most options.You can designate yourself as the owner of your spouse’s account, transfer the funds into your own IRA, or open an inherited (or stretch) IRA. With the latter, RMD amounts will be based on your age and be recalculated each year based on the factors in the IRS Single Life Expectancy Table.
Other eligible designated beneficiary: If you’re a minor, chronically ill, disabled, or less than 10 years younger than the deceased, you may open a stretch IRA described above. When minors reach the age of majority, the ten-year distribution rule applies.
Another relative or friend: If you don’t fall into the categories above and don’t choose to take a lump payment, you will need to create an inherited IRA account and transfer the funds. You won’t be allowed to make new contributions to the account. There are no annual required distributions, but you must withdraw all the money within 10 years.
COVID exceptions: Because of COVID, all RMDs have been suspended for 2020. This waiver includes inherited accounts. Consult with your tax advisor regarding the impact of COVID-related legislation on the ten-year liquidation requirement.
This brief article doesn’t cover all the rules and options regarding inherited retirement accounts. But we would be happy to explain different possibilities and their ramifications, and work with your attorney and accountant to guide you through any decisions you may face.
Consult your tax advisor regarding your own unique situation.