Dependent upon your relationship and type of account, there may be ways to avoid paying taxes on an inherited IRA.
Spouse beneficiaries typically have more choices available to them, followed by natural non-spouse beneficiaries. Let’s examine these possibilities further; speaking to a TIAA wealth advisor can help determine your optimal path forward.
Take a lump-sum distribution.
Before 2020, nonspouse beneficiaries who inherited an IRA had more options to avoid paying taxes when withdrawing funds from it. They could choose when and how they’d take out RMDs — either over their life expectancy or that of the deceased account holder’s — while having access to withdraw all their funds gradually instead of at once.
Removing all the funds from an inherited IRA at once exposes beneficiaries to a significant tax bill; by spreading out distributions over several years, they may reduce their tax impact by using lower marginal tax rates.
Beneficiaries should consult with an independent financial advisor specializing in inherited IRAs before making decisions regarding them. An advisor can offer strategies that might prevent moving into higher tax brackets, such as deferring lump-sum distributions or rolling over their account into another retirement account for later use. Bankrate’s AdvisorMatch service connects people to independent advisors specializing in these accounts.
Utilize charitable planning.
Since inherited IRA rules can be complex, seeking expert guidance before taking any actions can be critical to making informed decisions that maximize benefits while mitigating potential taxes. Working with a qualified tax or investment professional is key in order to maximize results while mitigating possible taxes that might arise from this decision.
Consider taking a lump-sum distribution in years when your income tax bracket is lower to reduce overall taxes owed. Doing this could significantly lessen the overall burden.
Charity planning allows you to support causes you care about while potentially qualifying for larger deductions on your itemized tax return than the standard deduction.
Inherited IRAs can be subject to stringent rules that could potentially impose a massive tax bill if not handled carefully. By following these tips, however, you can avoid paying taxes on your inheritance and maximize its potential return. A good way to start is speaking to one of Bankrate’s advisors so you can make the best choice for yourself financially.
Disclaim the IRA.
If the inheritance from an IRA will force you into a higher tax bracket or leave you financially unstable enough not to benefit, disclaiming may be in your best interests. Please consult a professional before taking this step as disclaiming must be executed properly in order to avoid taxes and any legal issues that could arise.
Disclaiming your interest in an IRA allows you to avoid all gift and income taxes associated with inheriting property, but the process must begin within nine months after an IRA owner dies; so if this option appeals to you, take action as soon as possible!
Additionally, disclaimers must be submitted in writing and submitted to an IRA custodian, who then notifies all beneficiaries of Rose’s estate (such as Iris and Daisy ) who may or may not be subject to federal generation-skipping transfer tax (GST).
Transfer the account to a new custodian.
IRS rules regarding inherited IRAs can be intricate, so it’s best to consult a financial advisor before making any decisions regarding them. As per Merrill, non-spouse beneficiaries are not eligible to roll their inherited accounts into their own IRAs.
If the deceased account owner was older than 72, they should already be required to take annual withdrawals (known as Required Minimum Distributions, or RMDs) according to their life expectancy. If this was not the case, you have two options for starting these distributions: either defer them until Dec 31 of the year following their death; or take your initial withdrawal over 10 years.
Choosing this second option requires paying income taxes on any withdrawal earnings; however, you won’t incur the 10% early withdrawal penalty.
