When an IRA or Roth IRA owner dies, the account is passed to the named beneficiary. That beneficiary may be a trust, a person, or possibly even a charitable entity. Tax treatment of distributions depends on who or what inherits the IRA, and what type of IRA it is.

What to do if you inherit an IRA?

attained by a beneficiary after the original owner’s death. The beneficiary can be a spouse or a non-spouse. There can be multiple beneficiaries listed in which case the original IRA would be split between multiple beneficiary IRAs. There can also be no beneficiaries listed in which case the IRA would be transferred to a spouse or children (at the discretion of the custodian’s default policy) or the estate of the deceased. There can be many different scenarios in the case of inherited IRA’s so it’s important to know the nuances of each.

Non-Spousal Beneficiaries

Non-spousal beneficiaries don’t have near the flexibility as noted above. Inherited IRA’s have to remain titled in the name of the deceased with the beneficiary listed (i.e. Jane Doe Beneficiary IRA of John Doe IRA). As for distributions, they can either be taken in full by the end of five years OR taken as periodic payments over their life expectancy beginning by December 31st of the year following the death of the deceased. In either case, the IRA retains its tax-deferred status and money is not taxable until withdrawn from the account.

Estate Named Beneficiaries

If an estate is named as a beneficiary of a Roth IRA, all funds must be withdrawn within five years. In the case of a traditional IRA, the funds must be withdrawn in five years UNLESS the original owner had already begun required minimum distributions. In this case, future distributions for heirs are based on the remaining life expectancy that would have been for the deceased.

Decedent over 70 1/2 And Taking Required Minimum Distributions

If the decedent was already taking required minimum distributions, the non-spousal beneficiary of the IRA MUST withdraw the RMD prior to 12/31 of the year the decedent passes. If they do not, it may be subject to penalties, and the penalty for not completing an RMD is 50% of the amount not withdrawn.

Distribution Penalties

There are no pre-age 59 1/2 penalties as there are with normal IRA withdrawals – the IRS simply wants their money as soon as they can get it. You must, however, elect to withdraw the funds over your lifetime by December 31 of the year after the decedent dies. If you don’t make the election, you must withdraw the entire inherited IRA within 5 years and pay all applicable taxes.

Do You Have An Inherited IRA?

If you’ve inherited an IRA it’s very important to play by IRS rules! Not doing so can land you in hot water in the form of steep taxes and/or penalties. See a qualified tax professional and if you don’t have one we’d be happy to recommend one for you!