INHERITING AN IRA AS BENEFICIARY (After 2019)
(This Article only applies to IRAs inherited after 2019)
Surviving spouses can roll IRAs that they inherit from a deceased spouse into their own accounts, postponing required minimum distributions - and taxes - until they turn 72. Children and other qualified beneficiaries do not have that option. If a qualified beneficiary wants to continue to benefit from tax-deferred growth, that beneficiary must roll his/her portion of the IRA into a separate account known as an “Inherited IRA”, which comes with its own set of rules. Note that a qualified beneficiary does not include an estate, a charity or other entity that is not an individual, or a trust that is not a “qualified trust”.
Unless you are an “eligible designated beneficiary” (see below), once you have established an Inherited IRA account and directly transferred the funds from the original IRA account, you have 10 years to completely withdraw all funds from the Inherited IRA account. The rules for withdrawals from an Inherited Roth IRA are the same as they are for an Inherited regular IRA.
There are different withdrawal rules for certain beneficiaries called “eligible designated beneficiaries”, or EDBs. Eligible designated beneficiaries are: (1) surviving spouses; (2) minor children, up to majority-but not grandchildren; (3) disabled individuals-under strict IRS rules; (4) chronically ill individuals; and (5) individuals not more than 10 years younger than the IRA owner (generally siblings around the same age). These individuals are able to stretch out the distributions under distribution rules in effect prior to 2020 for as long as the beneficiaries still qualify as EDBs. Once the beneficiary is no longer an EDB, they are then subject to the 10-year rule.
Special Rules for Beneficiaries of Inherited IRAs. A spouse may transfer the funds directly into his/her personal IRA. A qualified beneficiary must transfer the funds into a separate “Inherited IRA” account. If you are a qualified beneficiary, you should have the funds transferred directly from the original IRA to your Inherited IRA. If you receive checks made out to you personally, you will be prohibited from depositing the funds into Inherited IRAs and will have to pay taxes on the entire amount. There is no 60-day window to deposit the money into the new accounts, as there is with rollovers of your personal IRAs.
If you inherit an IRA, you can cash out the account at any time without paying an early withdrawal penalty, even if you are not yet 59 ½. However, unless you inherit a Roth, you will have to pay taxes on the money (except to the extent, if any, that the original owner made nondeductible contributions). A large withdrawal could push you into a higher tax bracket. Taking distributions from an Inherited IRA over 10 years could minimize the total tax bill and maximize tax-deferred growth.
Ignoring non-person beneficiaries. IRAs with multiple beneficiaries that include a charity or other non-person entity must pay out that entity’s share by September 30 of the year following the owner’s death. If that share is not paid out and the account has not been split, the qualified beneficiaries cannot take withdrawals over 10 years. The qualified beneficiaries would have to complete all distributions from the account within 5 years.
If a trust is a beneficiary, the trustee needs to send a copy of the trust to the IRA custodian by October 31 of the year following the year the owner died. Otherwise, the trust is considered a non-designated beneficiary and the same payout rules that applied in the previous scenario with the charity will kick in.
The above is a summary of the general rules for IRAs. You should not rely on this advice as each person’s plan requires review for advice that would apply to their situations. Additionally, the rules and laws may change. You should consult with your tax or estate planner on a regular basis for current information and advice.