What You Need to Know
Inheriting an IRA often raises important questions about what happens next. From required withdrawals to timing rules, there are several factors you need to consider. At first, it can feel confusing and complicated, but once you understand the basics, inherited IRA rules become a little easier to navigate. Here is what you need to know:
What is an inherited IRA?
An inherited IRA is a retirement account passed to a beneficiary after the original owner’s death. IRAs are designed to grow tax-deferred, however, the IRS requires that funds are withdrawn over time so that they do not grow indefinitely in a permanent tax shelter.
What about Roth IRAs?
There is a key distinction when it comes to Roth IRAs:
- Original Roth IRA owners are not required take RMDs but beneficiaries may have distribution requirements. The rules that apply depend on timing of the original owner’s death and the beneficiary type.
Why are Inherited IRA rules confusing?
Inherited IRA rules can feel confusing because they depend on several different factors, not just one set of guidelines. The rules changed with the SECURE Act in 2020, so the requirements vary depending on when the original IRA owner passed away. They also differ based on whether the owner had already begun taking required distributions, as the IRS wants beneficiaries to take withdrawals “at least as rapidly” as the original schedule. On top of that, the type of beneficiary makes a difference. Spouses have more flexibility than other beneficiaries, and there are separate rules for non-spouse beneficiaries as well.
Understanding Required Minimum Distributions (RMDs)
Required minimum distributions (RMDs) are the minimum amounts you must withdraw from your retirement accounts each year.
You generally must start taking withdrawals from your traditional IRA, SEP IRA, SIMPLE IRA, and retirement plan accounts when you reach age 73.
There is a required beginning date (RBD) for account owners when they must take their first RMD.
- The SECURE 2.0 Act of 2022 changed the age at which you must begin taking RMDs, depending on when you were born.
- If you reached age 72 on or before December 31, 2022, you were already required to take your RMD and must continue.
- If you did NOT reach age 72 by December 31, 2022, you are required to take your first RMD from your traditional IRA by April 1 of the year after you reached age 73.
- If you are born in 1960 or later, your RMD age is 75.
Once an IRA is inherited, the responsibility to take withdrawals shifts to the beneficiary, and if the original owner did not take their final RMD, the beneficiary may need to.
When do distributions from an inherited IRA start?
The timing of distributions from an inherited IRA depends on several factors, including when the original account owner passed away and whether they had already begun taking required minimum distributions (RMDs).
If the original owner died after reaching their required beginning date (RBD), their RMD for the year of death must still be taken. If it was not already withdrawn before their passing, the responsibility shifts to the beneficiary to take that distribution.
Because these calculations can vary based on your specific situation, working with your financial advisor can help insure the correct amount is withdrawn and that important deadlines are met.
How do you determine RMDs from an inherited IRA?
There are three key variables:
- What is the date of death of the original IRA owner?
- What is the type of beneficiary?
- What is the age of the original owner at their death?
Rules for Inherited IRAs When the Owner Passed Away in 2020 or Later
When an owner passes away after December 31, 2019, the following applies:
When a Spouse is Sole Beneficiary
A spouse has choices:
- A spouse can choose to assume the IRA as their own.
- A spouse can determine to treat it as an Inherited IRA following the inherited IRA rules outlined below.
The 10-Year Rule
- Most non-spouse beneficiaries must withdraw all funds by the end of the 10th year following the year of death of the IRA owner.
- The account does not need to be emptied evenly each year if the owner died before their required beginning date for distributions.
- Annual RMDs may still apply in years 1-9 if the original owner had already begun RMDs.
Exceptions to the 10-Year Rule
There are certain eligible designated beneficiaries (EDB) who may stretch distributions instead of withdrawing all funds within 10 years. The IRS recognizes five specific EDBs:
- Surviving spouse
- Minor child of the account owner (until they reach the age of majority at which time they will be subject to the 10-year rule)
- Disabled individual (as defined by the IRS)
- Chronically ill individual (as defined by the IRS)
- Individual who is not more than 10 years younger than the IRA owner
Special Case: Non-Individual Beneficiaries
Estates, charities, and some trusts may be subject to a 5-year rule or other payout requirements. Your financial advisor can help you determine what rules may apply in this specific situation.
Rules for Inherited IRAs When the Owner Passed Away BEFORE 2020
Different rules apply if the IRA owner passed away before 2020. These rules are outlined in separate articles.
Rules for Inheriting an Inherited IRA When the First Beneficiary Passes Away
What happens if the beneficiary of an inherited IRA passes away without fully distributing the assets in their inherited IRA? The inherited IRA account will then get inherited by their beneficiaries. We will review these rules in a separate article.
Your Financial Advisor Can Help
Inherited IRA rules can be complex, but you do not have to try and make sense of them on your own. Whether you are a surviving spouse, one of several beneficiaries, or dealing with a situation involving trusts, understanding your options is an important first step. Your financial advisor can clarify rules, evaluate potential tax implications, and guide you toward thoughtful, informed decisions. If you would like to learn more or discuss your specific situation, please feel free to contact us.
