Inherited IRAs - Nonspouse

Recently, we received a request for information concerning inherited IRAs. There are many advantages to having an IRA (see Traditional IRAs and Roth IRAs: Which Is The Best Fit For You?). But what happens in the event that you inherit an IRA? When the owner of an IRA dies, one or more designated beneficiaries of the account must choose how to manage the inheritance. As an IRA beneficiary, there are many options available to you as well as deadlines and requirements that you must meet. For the purposes of this blog post, let's take a look at the options involved for a nonspouse beneficiary of an IRA. For information and assistance concerning tax implications, please consult a tax advisor.

Information that you'll need to know to guide you through this process includes:

-Which type of IRA is being inherited (Traditional or Roth; if Roth - date account was opened)
-The age of account holder at death
-Whether or not the account holder had begun taking Required Minimum Distributions (RMDs)

Traditional IRA
If the account holder was under 70 1/2, you can choose to:

-Take a lump sum distribution - After the assets are transferred in your name, all assets in the IRA are distributed to you in the form of one payment. You will pay income taxes on this distribution, however you will not incur the 10% early withdrawal penalty. You may move to a higher tax bracket depending on the amount of the distribution as well as your current income level.

-Inherit the IRA - All assets in the IRA continue to grow tax deferred. As the beneficiary of an inherited IRA, you can withdraw from it for a fixed period of time. You will be taxed on each distribution from the IRA, however you will not incur the 10% early withdrawal penalty regardless of your age. Undistributed assets continue to grow tax deferred and you may designate your own beneficiary to the IRA.

If the account holder was over 70 1/2, you can choose to:

-Take a lump sum distribution - All assets in the IRA are distributed to you in the form of one payment. You will pay income taxes on this distribution, however you will not incur the 10% early withdrawal penalty. You may move to a higher tax bracket depending on the amount of the distribution as well as your current income level.

-Inherit the IRA - All assets in the IRA continue to grow tax deferred. As the beneficiary of an inherited IRA, you must begin taking RMD's over your life expectancy beginning no later that 12/31 of the year following the account holder's death. If the account holder did not take an RMD in the year of death, you must take an RMD by 12/31 of the year the original account holder died. For any year in which you fail to satisfy the RMD, you must pay an IRS penalty equal to 50% of the RMD amount that was not withdrawn.* You will be taxed on each distribution from the IRA, however you will not incur the 10% early withdrawal penalty regardless of your age. Undistributed assets continue to grow tax deferred and you may designate your own beneficiary to the IRA.

Roth IRA
Roth IRA distributions consist of after-tax contributions and earnings. Contribution amounts are always distributed tax free, but a five year holding period applies to earnings. If the account has been open for five years at the time of the account holder's death, the earnings are taxable but penalty free. If the account has been open for less than five years, the assets stay in the account and continue to be taxed until the fifth year. Early withdrawals are subject to taxation including possible early withdrawal penalties and holding requirements.

You can choose to:

-Take a lump sum distribution - After the assets are transferred in your name, all assets in the IRA are distributed to you in the form of one payment. The earnings of the account are taxable but penalty free if less than five years old. You may move to a higher tax bracket depending on the amount of the distribution as well as your current income level.

-Inherit the IRA - Transfer the the assets into an inherited IRA in your name; distributions must begin no later than 12/31 of the year following the year of death. You will not incur the 10% early withdrawal penalty. Undistributed assets continue to grow tax deferred and you may designate your own beneficiary to the IRA.

*If you are a member of a group of beneficiares, you may base RMD calculations on the life expectancy of the oldest member of the group. However, you may be able to calculate RMD based on your own life expectancy if each beneficiary establishes his or her own separate inhertied IRA by 12/31 of the year following the year of the account holder's death. If separate accounts have not been established by 12/31 of the year following the year of the account holder's death, RMD calculations will be based on the life expectancy of the oldest beneficiary. Consult a tax advisor or attorney to determine the best course of action for your situation.

With either type of IRA, if you inherit an IRA you cannot treat the IRA as your own which means you can't rollover any part of it or roll any amount into it. You will not owe any taxes on assets in the IRA until you receive distributions from it.

To move the old IRA to you as the new owner, contact the company where the IRA is and tell them that you are the beneficiary and that you want to move the money. They'll send you the required forms for you to complete. Then, simply choose another company to move the money to. Once you've chosen a new company, let them know that you wish to establish a BENEFICIARY IRA to move the money to. We recommend either a fixed annuity or a fixed index annuity to move the money to because it allows you to protect the principal of the account from the risk of market losses while simultaneously giving you the opportunity for upside potential. Look at the annuity as your "safe money" - money that you won't be touching until you're retired.

By setting up the Beneficiary IRA, you'll have control over the account while keeping it in the name of the previous account holder. You'll also want to set up a Non-Qualified account in your name, that way you'll have some where to put the distributions that are coming out of the old IRA.

For more info on tax implications contact a tax advisor.

The IRS also has a publication that discusses how to treat IRAs. [link]

If you or someone you know needs assistance in setting up a new account from the proceeds of an inherited IRA, please don't hesitate to contact us for a free consultation.
---
This site may contain concepts that have legal, accounting and tax implications. It is not intended to provide legal, accounting or tax advice. You may wish to consult a competent attorney, tax advisor, or accountant.

If you have any questions or know anyone who might need any of the types of services described within, please do not hesitate to contact us for a free consultation.

Email us at pfs1911@gmail.com.