Well, it took a long time, but we finally have an answer on what will be required when you inherit an IRA from anyone but your spouse.
In short, if you inherited someone's retirement account, you're going to have to empty the account - and pay the taxes on the money - by the 10th year after the death of the original owner, and withdraw at least a minimum amount each year before then. What's the minimum? It's explained here.
Penalties for not taking the distributions have been waived since the rule was implemented: Required Minimum Distributions were suspended for everyone in 2020 as part of the coronavirus relief package, then the penalties were waived in subsequent years while the final decision was considered. And no penalties will be implemented until 2025.
However, we're now 5 years into the rule, and some beneficiaries are only 5 years away from having to empty their inherited IRAs. The 10 year rule was never in question! It was frustrating to not know whether minimums would be required, but for most people, it was almost irrelevant: waiting 10 years and then taking a large distribution all at once would rarely have been a good idea tax-wise.
So, it's good that we now know for sure what will be required; at least we can do the calculation to make sure no one is running afoul of the rules and incurring a penalty. And interestingly, this change is informing a shift in how I'm planning for these accounts while someone is still alive: maybe it's not such a great idea to fund these accounts to the exclusion of Roth or taxable accounts, if it will lead to tax inefficiency later. It might be better to incorporate some tax diversification in your accumulation years. And when you're retired, maybe it's better to take bigger distributions sooner, even if you don't "need" the money. The advice seems to be drifting away from "delay taxes as long as possible" to "pay the taxes when you're in the lowest tax brackets possible". After all, if your kids will inherit the money, it's likely they will inherit when they're in their peak earning years - if they have to distribute everything in 10 years, those will be some expensive tax bills. They're better off inheriting the money in a taxable or Roth account.
So, if you're the recent beneficiary of an inherited IRA, here's a flowchart to help you understand what's going to be required of you:
There are always exceptions, and here are the ones to keep in mind:
Spouses are exempt from this rule
Also exempt are those individuals considered Qualified Eligible Beneficiaries:
Beneficiaries who are not more than 10 years younger than the decedent (siblings often fall into this category, for example)
Chronically ill or disabled beneficiaries
A minor child of the decedent (but only until the child turns 21)
Also, the beneficiaries of people who passed away in 2019 or earlier are not impacted by the new rule at all - they continue on with their stretch distributions
Comments