New legislation passed in 2019 mandates that non-spouse beneficiaries must clear out a Roth IRA within 10 years after its owner has died, as opposed to previously using stretch IRA options which allowed withdrawals over multiple lifetimes.
Some exceptions apply, such as minor children or beneficiaries no more than 10 years younger than the original account holder who have chronic illnesses or disabilities.
Life Expectancy Calculator
When inheriting an IRA or retirement account from another, specific IRS regulations dictate when and how withdrawals must be taken from it – these rules are known as Required Minimum Distributions (RMD).
Spouses enjoy an exclusive advantage by treating an inherited IRA as their own and deferring their first RMD until age 70 1/2. In addition, they may take advantage of the Uniform Lifetime Table when calculating future RMDs.
Non-spouse beneficiaries who aren’t designated beneficiaries or spouses must take their first RMD by December 31 of the year following an account owner’s death, using the Single Life Expectancy Table and subtracting one from their current age to calculate their life expectancy factor.
The SECURE Act of 2019 amended RMD rules for non-spouse beneficiaries. As of 2020 and after, these new RMD requirements require non-spouse beneficiaries to withdraw assets from an inherited account within 10 years after an account owner dies. There are exceptions in place for surviving spouses, disabled beneficiaries or beneficiaries who are no more than 10 years younger than original account owner.
Five-Year Rule
An inheritance of an IRA can have considerable tax repercussions for its beneficiary, who must eventually liquidate it within 10 years, though their method of doing so could significantly extend its useful life while also lowering income tax payments.
If the Roth IRA they inherit is over five years old, its beneficiary can use the life expectancy method and avoid incurring an early withdrawal penalty of 10% if they are under age 59 1/2; however, regular income taxes must still be withheld from distributions made during that period.
Beneficiaries have the option to treat an IRA as their own and not take distributions at all, although any withdrawals they do make will incur heavy income taxes. Before making this decision, it’s essential to review all options with an experienced tax planner.
Lump Sum Distributions
If you inherit a Roth IRA that your loved one contributed to, you have several options for managing it in your name. Although no new contributions can be added to it, RMDs must still be taken from it within 10 years following death of its original owner – otherwise penalties apply of 10% tax penalty tax will be assessed.
Before the SECURE Act of 2019 took effect, non-spouse beneficiaries could utilize an estate planning strategy called “stretching” to avoid these penalties. Unfortunately, this method no longer exists for beneficiaries who inherit IRAs that have begun taking RMDs – regardless of your strategy, you must abide by legal requirements to avoid penalties.
Transferring Funds
When inheriting an IRA, there are different methods you can take distributions. Individual beneficiaries have the five-year rule available to them while spousal beneficiaries have additional choices available to them. It is crucial that whatever route you take works within compliance with current rules while maximizing investment growth. Working closely with financial advisors and tax specialists is vital.
Life expectancy planning can often be the optimal option. By using the IRS Single Life Expectancy Table, you can calculate an appropriate withdrawal amount each year (that will be reviewed annually), depending on both your age and that of the deceased account holder’s single life expectancy. This allows for you to spread out withdrawals across your lifetime while increasing the time your funds can grow tax-free. Keep in mind, however, that non-spouse beneficiaries inheriting an IRA after 2019 must empty it within 10 years unless married to or having converted their account in this case.
