The SECURE Acts greatly changed the rules for Inherited IRAs unless you’re a spouse. Spousal beneficiaries have the most flexibility when inheriting an IRA. They can treat it like their own and roll it into their IRA, where the funds continue growing until the surviving spouse reaches 73, when they will start required minimum distributions. If the surviving spouse is older, they can act as the beneficiary of the Inherited IRA and delay RMDs until the original owner reaches age 73, again allowing the funds to continue to grow. If the original owner was already receiving RMDs, the spousal beneficiary can continue taking RMDs based on the original owner’s life expectancy, or they may submit a new RMD schedule based on their life expectancy.
Depending on the situation, a surviving spouse may choose to roll the assets into a new or existing IRA and then convert the assets to a Roth IRA, which would incur ordinary income tax on the amount converted. It would then allow the assets to grow tax free without needing to take RMDs in the future. A beneficiary can also disclaim the inheritance, allowing the IRA to pass to the remaining primary beneficiaries or contingent beneficiaries—something to consider if there is an estate planning issue.
The options are plentiful, but whichever distribution you choose should be dictated by your financial plan. Ideally, couples have overarching financial plans. They know how much they need to save for retirement. They have a good sense of where their retirement income will come from and what they should need for living expenses. But as any planner will tell you, life happens while you’re busy making plans.
Typically, when discussing spousal beneficiaries and inherited IRAs, we assume we’re addressing seniors. However, we recently worked with a couple in their early 40s where the wife was dying from a terminal illness, and the husband would inherit her IRA. Adding to the already tough situation, the couple had three young children. He was stretched thin, caring for his wife, supporting his children, and preparing for life once she passed. He knew the first year would come with a lot of unknowns as far as expenses are concerned.
In this case, the husband was able to split his late wife’s IRA into an inherited IRA and roll some into his IRA. The inherited IRA allowed him access to the money at ordinary income tax rates without any early withdrawal penalty. Because he is a spousal beneficiary, he has an exception to the 10-year depletion rule for inherited IRAs and chose to take RMDs based on his life expectancy, allowing him access to part of the money to help make the transition to being a single parent a little easier while keeping most of the money in a tax-advantaged account for as long as possible. Additionally, he was still able to keep a portion of his and his wife’s retirement plans intact by rolling part of the balance into his IRA.
Before coming to this decision, he considered many different scenarios, his current tax situation, current cash flow, and the family’s immediate needs. Fortunately, these important financial decisions do not have to be made immediately. Generally, spousal beneficiaries have until Dec. 31 of the year following the account holder’s death to rollover or establish new accounts. This allowed him the time to work with an adviser, a tax consultant, and his estate planning attorney.
If you have questions on how to handle an inherited IRA, the experts at Henssler Financial will be glad to help:
- Experts Request Form
- Email: experts@henssler.com
- Phone: 770-429-9166
Listen to the July 29, 2023 “Henssler Money Talks” episode.
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