What Rules Govern Inherited IRAs?

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Rules governing inherited IRAs have changed recently.

You have recently inherited an IRA.

You are vaguely aware of changes in tax law with the passing of the SECURE Act in December of last year and again with the CARES Act in late March.

Even so, you are not clear on the new rules and how they impact you.

I mean, can planning for an inherited IRA get any more complicated than it already was?

Seems it can.

According to a recent News & Record article titled “Read This Before You Touch Your Inherited IRA Funds,” understanding the rules governing inherited IRAs is essential before you touch them.

Inherited IRAs may be more complex than other assets.
The SECURE Act altered what can be done with inherited IRAs.

What do you need to know?

You may need to pay taxes on any Roth IRA earnings or traditional IRA distributions if the account was owned for fewer than five years.

Because of the CARES Act, you are not required to take a required minimum distribution (RMD) in 2020.

This means you may not need to pay taxes this year on withdrawals as would be the case under normal circumstances.

Are you a surviving spouse who inherited an IRA?

You may choose a spousal transfer if you do not need the money.

This rolls the funds from the inherited IRA into your own IRA.

Doing so delays your RMDs on the funds until your turn 72.

To qualify for this, you must be the surviving spouse and the sole beneficiary of the decedent.

Do you need money from an IRA during these times?

There is good news.

The federal government waived the standard 10 percent penalty for those under age 59½ who take early withdrawals.

If you are over age 59½, you would have been able to access the funds without a penalty.

Another factor to consider is when you inherited your IRA.

If your love one died in 2020 or later, you have until December 31 of the tenth year.

Although you can do so incrementally or in one large withdrawal, you should consider whether your actions will place you in a higher tax bracket.

If yes, you could significantly increase your tax liability.

Yikes!

A significant change made to rules governing inherited IRAs is the “life expectancy” method.

What is this?

If the heir is a surviving spouse, person with a disability, chronically ill individual, minor child, or someone fewer than ten years younger than the decedent, then you enjoy preferred distribution treatment.

Accordingly, the life expectancy rule applies and allows RMDs to be taken out over the lifetime of beneficiary falling into one of these catagories.

However, once a minor child turns 18, then the ten year countdown begins.

When choosing what to do with an inherited IRA, be sure to consider the impact of your decision on your taxes and your long-term financial goals.

Reference: News & Record (May 25, 2020) “Read This Before You Touch Your Inherited IRA Funds”

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