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Navigating the Ins and Outs of Inheriting an IRA

Over the past four years, we have experienced numerous changes in legislation regarding how to handle inherited IRAs. If you or your partner have inherited a retirement account recently, it’s important to know what your distribution options and requirements are. There are three main factors that contribute to your specific set of rules. Those components are how old the decedent was, your relationship to the decedent, and what year the decedent passed away.  

In case you missed it, the IRS provided Notice 2024-35 in April which removed required minimum distributions (RMDs) for IRA beneficiaries subject to the annual 10-year draw-down period. This may have a significant impact on your inherited IRA distribution strategy. Before we dive into the changes, let's first cover the basics of IRAs, inherited IRAs, and the new rules that came from the SECURE Act back in 2020.

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If you own an IRA, required minimum distributions (RMDs) are eventually mandatory (hence the name!). This is because money put into an IRA on a pre-tax basis (and its earnings) has not been taxed. The money will eventually get taxed on distributions that occur from the account. If the IRS did not establish required minimum distributions (RMDs), they may never get paid on your pre-tax contributions! Therefore, the IRS requires account owners to withdraw their contributions at their required beginning date

Your required beginning date depends on when you were born. For example, a required beginning date for someone who turned 73 on or after January 1, 2023, is April 1st of the year after you turn 73. 

As you can see, the IRS wants distributions to occur from IRAs, and inherited IRAs (pre-tax OR Roth IRAs) are no exception. If you inherit an IRA, you will be required to take distributions at some point. As stated previously, it will depend on three major items: what year the original owner passed away, the original account owner’s age at death, and your relationship to the account owner. 

ORIGINAL ACCOUNT OWNER’S DEATH OCCURS 2019 OR EARLIER

There was a major overall in inherited IRA distribution rules starting in 2020 with the SECURE ACT. If the original account owner passed away in 2019 or earlier you had the following options:

Spousal Beneficiary Distribution Options - Before the original account owner’s RBD:
  • Transfer the IRA into an inherited IRA and take distributions over their life expectancy or follow the 5-year rule.
  • Roll over the account into their own IRA (typically the most popular) and follow their own RBD and RMD requirements 

Spousal Beneficiary Distribution Options - After the original account owner’s RBD:

  • Take distributions based on their own life expectancy

Non-Spouse Beneficiary Distribution Options - Before the original account owner’s RBD:

  • Transfer the account into an inherited IRA and take distributions over their life expectancy or follow the 5-year rule.

Non-Spouse Beneficiary Distribution Options - After the original account owner’s RBD:

  • Take distributions based on the longer of their own life expectancy or the account owner’s remaining life expectancy. 


ORIGINAL ACCOUNT OWNER’S DEATH OCCURS 2020 OR LATER

Spousal Beneficiary Distribution Options - Before the original account owner’s RBD:

  • Keep as an inherited IRA (which presents a few options)
  • Roll over the account into their own IRA (again, typically the most popular) and follow their own RBD and RMD requirements 

Spousal Beneficiary Distribution Options - After the original account owner’s RBD:

  • Keep as an inherited IRA (distributions will be based on their own life expectancy)
  • Roll over the account into their own IRA (again, typically the most popular) and follow their own RBD and RMD requirements 

Non-Spousal Beneficiary Options

We cannot provide you with simple bullet points now that we have to abide by the SECURE Act’s new rules for non-spouse beneficiaries. First, we must define what type of non-spousal beneficiary someone may be (yes, now there is more than just one general non-spouse beneficiary!). We now have two new terms to define; “eligible designated beneficiary” and “designated beneficiary”

Eligible Designated Beneficiary:

  • Spouse or minor child of the deceased account holder
  • A disabled or chronically ill individual
  • An individual who is not more than 10 years younger than the IRA owner

Designated Beneficiary

  • Anyone else that doesn’t fit one of the descriptions above :) 

NOW we can discuss distribution options for each Non-Spousal Beneficiaries (eligible designated or designated beneficiary)...

Eligible Designated Beneficiary Distribution Options

  • Take distribution over the longer of their own life expectancy and the original account owner's remaining life expectancy or
  • Follow the 10-year rule

Designated Beneficiary

  • Follow the 10-year rule


10-YEAR RULE

If you’re still following along (we’re so proud if you are!), you may be wondering, “What’s this 10-year rule?” The new 10-year rule that came out of the SECURE ACT in 2020 disregards whether the original account owner died before, on, or after their required beginning date. Instead, the rule is simply: 

  • Empty the entire account by the end of the 10-year period following the year of the account owner’s death.


RMDS IN ADDITION TO THE 10-YEAR RULE

As we stated under the 10-year rule, regardless of the age of the account owner, you will need to empty the entire account by the end of the 10-year period. In addition to this rule, the IRS proposed regulations in February 2022 that required beneficiaries to also take RMDs during their 10-year Rule period for those who inherited an IRA from someone who died after reaching their RBD.

However, because of the confusion, the IRS waived any penalties for not taking inherited IRA RMDs for 2021, 2022, and 2023!


2024 INHERITED IRA RMD UPDATE AS OF APRIL 2024

We now come full circle to our initial update at the beginning of the blog. In April 2024 the IRS provided Notice 2024-35 which removed required minimum distributions (RMDs) for IRA beneficiaries subject to the annual 10-year draw-down period. 

Does that mean you shouldn’t take money out of your inherited IRA in 2024? Not necessarily. We have many clients who despite this requirement being waived, we are still taking distributions from their inherited IRAs based on current and future tax projections.


WHAT DO YOU DO WITH YOUR INHERITED IRA?

First, we recommend taking a moment to appreciate the time, effort, and energy your loved one put into that account. Second, speak with a CFP®  professional to understand what options you have in regard to the account. Third, make a plan on how you will utilize the funds and handle future distribution requirements.

If you’re looking for guidance on how to incorporate your inherited IRA into your unique financial plan, we would be honored to help you. Please consider scheduling a free consultation with Fyooz Financial Planning to get your plan started.


Disclaimer: This article is for informational purposes only and is not a recommendation of Fyooz Financial Planning, Natalie Slagle CFP®, or Daniel Slagle CFP®. Past performance may not be indicative of future results and may have been impacted by events and economic conditions that will not prevail in the future. Therefore, it should not be assumed that future performance of any specific security, investment product or investment strategy referenced in the article, either directly or indirectly, will be profitable or equal to the corresponding indicated performance level(s). No portion of the article shall be construed as a solicitation to buy or sell any specific security or investment product or to engage in any particular investment or financial planning strategy. Any reference to a market index is included for illustrative purposes only, as it is not possible to directly invest in an index. Indices are unmanaged, hypothetical vehicles that serve as market indicators and do not account for the deduction of management fees or transaction costs generally associated with investable products, which otherwise have the effect of reducing the performance of an actual investment portfolio.

Fyooz Financial Planning
Founders, Fyooz Financial
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