What Are the Distribution Rules for an Inherited IRA?
An inherited RIA requires you to take annual distributions no matter your age, but there are different rules depending on your relationship to the late account holder and how old they were when they passed. We break down some of your options.
Your options when you inherit an IRA from your spouse
There are several options for you if you inherited an IRA from a spouse. However, those options do change depending on how old your spouse was.
If your spouse was under 70 ½ years of age
You have four options for your inherited IRA.
- Transfer the inherited IRA and assets into your own IRA — With this option, you will transfer the inherited assets into your existing or new IRA. Money is available immediately, but there are still withdrawal penalties if you do so before age 59 ½. This is only an option if you are the sole beneficiary.
- Open an inherited IRA and use either the life expectancy method or the five-year method — With either of these methods, you will transfer the assets into an inherited IRA in your name. Distributions in the life expectancy method begin no later than the end of the year the late asset holder would have reached the age of 70 ½. Annual distributions are spread over life expectancy that is based on age. You will also not be penalized for early withdrawal. For the five year method, money is available any time up until the end of the year of the fifth year the account holder passed. After that, all assets will be distributed. You are taxed on each distribution and will not be penalized for early withdrawal.
- Go for the lump-sum distribution — In this option, all assets in the late account holder’s IRA are distributed immediately and all at once. You will have to pay taxes on this distribution and this could potentially move you to a higher tax bracket.
If your spouse was over 70 ½ years of age
Your options are the same in this case, except for the five-year method.
- Treat the IRA as if it’s your own.
- Open an inherited IRA with the life expectancy method — In this case, required minimum distributions are taxed per distribution (and are mandatory).
- Lump-sum distribution.
It’s best to speak with a financial advisor to go over your options. Because of taxes, penalties, and other asset complications, a financial advisor will be the best way to ensure you are making the best decision for your finances.
Your options when you inherit an IRA from a non-spouse, like a parent, sibling, or friend
Things are only slightly more complicated if you inherit an IRA from a non-spouse. From Fidelity.com:
As a non-spouse beneficiary, you must directly roll over the inherited assets to an Inherited IRA in your own name and use your own age and the IRS Single Life Expectancy Table for calculating the first year RMD. For each year after, you would subtract one year from the initial life expectancy factor.
Note that there are specific rules depending on when the account holder passed, so a financial advisor who specializes in retirement planning and estates will be able to help you parse through any kind of complications or questions you may have.
Inherited IRAs often come at a tumultuous and emotional time. Because of tax implications and withdrawal penalties, it’s imperative that you have someone who can help you parse through the legalese.
Originally published at https://www.seniorfinanceadvisor.com.