IRAs are among the largest assets inherited by their heirs. How you treat your inheritance will have an enormous effect on its lifespan and on how much taxes are due on its earnings.
A straightforward option would be to open an inherited IRA which cannot accept new contributions, then withdraw amounts over your expected lifetime using IRS life expectancy tables.
Roll the Contents into an Existing IRA
If you are the sole beneficiary of your spouse’s IRA, and assume ownership, then your required minimum distributions can be calculated using your life expectancy rather than being subject to an early withdrawal penalty of 10%.
Non-spouse beneficiaries who wish to take advantage of this option must open a new inherited IRA without making additional contributions, and withdrawals must begin no later than the year the deceased account owner would have turned 73.
IRS website contains detailed rules regarding inheritance IRAs, while working with an experienced financial professional can help you better understand your options and consequences. Paying a small fee to gain such advice often outweighs potential costly errors caused by ignorance of one’s options.
Open an Inherited IRA with a 10-Year Distribution
When someone close to you passes away, their IRA assets become your responsibility. To minimize tax, generally speaking the most tax-efficient solution would be rolling them over into your own IRA account; this way you could benefit from potential tax-deferred growth or, in case of Roth IRA assets, even tax-free growth over time.
However, your income tax liability on distributions depends on your relationship to and age of the original account holder. Furthermore, IRS rules require non-spouse beneficiaries withdraw funds in a 10-year timeframe or face substantial penalties.
When making decisions regarding an inherited IRA, the best course of action depends on your particular circumstances and it is always wise to work with a fiduciary financial professional when reviewing options and requirements. Doing this can ensure you fully comprehend all available choices as well as any surprises down the road that could come up later on. An IRA is a significant asset so having a clear plan in place for its management can make all the difference in results and savings over time.
Take a Lump-Sum Distribution
Non-spouse beneficiaries have limited options when it comes to inheriting retirement accounts. While they can roll the money into their own IRA and treat it like it has always been theirs, they must still abide by all distribution and penalties that apply to the original account.
Alternately, they could withdraw the money as a lump sum without incurring the 10% early withdrawal penalty; however, doing so would incur income tax on its entirety and possibly bump them into a higher tax bracket, thus diminishing future growth potential.
One exception applies to surviving spouses, minor children and disabled beneficiaries who can “stretch out” their distributions based on their life expectancies, deferring tax liabilities until later in life. Otherwise, disclaiming inheritance and passing it along requires assistance from a financial professional and may prove more complex.
Take a Withdrawal
When inheriting an IRA, there are various options available to you for managing its funds. Your decision may depend on your relationship to the deceased and when required minimum distributions begin.
If you are the spouse of someone who has recently passed away, rolling their assets over into an IRA account and treating it like they had always belonged to you is one option that may help avoid the 10% early withdrawal penalty that applies for withdrawals before age 59 1/2.
Non-spouse beneficiaries, on the other hand, must move funds into an inherited IRA called a beneficiary IRA that cannot accept contributions and must take required minimum distributions (RMDs) according to an IRS life expectancy table.
Utilizing the five or 10-year withdrawal method enables you to gradually withdraw funds from an inherited IRA over an established timeframe, thus avoiding early-withdrawal penalties of 10% and only paying income taxes upon your withdrawals. Consult a fiduciary financial professional when considering this strategy for maximum efficiency.
