The account owner is deceased after December 31st, 2019.
Beneficiaries of Inherited IRAs from account owners that are deceased after January 1st, 2020 are subject to the new IRS regulations established with the passage of the SECURE Act effective January 1st, 2020.
The SECURE Act – What it means for beneficiaries:
The SECURE Act differentiates between “eligible” and “not eligible” designated beneficiaries, essentially modifying the options available to “not eligible” beneficiaries.
“Eligible” beneficiaries include:
- Surviving spouses
- Minor children of the deceased (until they reach the age of majority*)
- Disabled Individuals1
- Chronically ill individuals2
- Individuals not more than 10 years younger than the deceased
The options for the account have not changed (refer to “The account owner was deceased prior to January 1st, 2020” tab). Your strategy may depend on your relationship to the account holder, the type IRA account, and if there are multiple beneficiaries. For more information, please visit www.irs.gov.
*Once minor children reach the age of majority, “not eligible” beneficiary rules apply.
1In order to qualify, the condition must be pre-existing upon death of original beneficiary.
2 In order to qualify, the condition must be pre-existing upon death of original beneficiary.
“Not Eligible” beneficiaries include:
1. Everyone else not listed in the “eligible” beneficiary category
There is only one option for the inherited IRA, and that is to distribute the assets within 10 years. Your strategy may depend on what type of account the IRA is and if there are multiple beneficiaries. For more information, please visit www.irs.gov.
Account Type: You inherited a Traditional, SEP, or SIMPLE IRA.
Contributions to this account type were tax deferred. This means that any distributions from the account will be taxed based on your income tax bracket. It is important to note that depending on your income level and the amount of the distribution, you may move into a higher tax bracket.
Was the account owner under the age of 72?
The IRS requires that owners of this type of account must begin taking distributions when they reach age 72. When you inherit the IRA, the age of the account owner will affect if and when you are required to take minimum distributions.
Account Type: You inherited a ROTH IRA account.
Contributions to ROTH IRAs are post-tax. This means that distributions from the account will be tax free, although there is an exception (see below).
The account was not held for 5 or more tax years.
The IRS established the 5-year rule for Roth IRAs specifically because of its tax-free distribution status. If the inherited account had not been held for 5 or more tax years prior to the death of the account owner, then distributions you make of the earnings from the account will be subject to tax. Once the 5-year hold period has been met, all distributions will be tax-free.
There are still active investments in the account.
This will affect the options that you have for the account and the distribution of the assets of the account. You will only be able to hold the assets in an account with a company that can custody alternative assets, like Preferred Trust Company.
Options Available to Anyone
These options are available to you regardless of your relationship to the account owner. Important Note: Your options may be affected if there are multiple beneficiaries.
Disclaim the account:
Anyone can disclaim or not accept the retirement account, allowing the assets to pass to an alternate beneficiary named by the original account owner (if there is one).
Lump sum distribution:
If the account is in a cash position (has no investments) then you can distribute the entirety of the account without incurring the 10% early withdrawal penalty. However, if there are active investments, this option may be more difficult to execute seeing as many alternative investments are not readily liquid. Please note that this does not defer applicable taxes on the distribution if there are any.
You are under the age of 59 ½.
The IRS treats the inherited IRA as your own, so if you decide to distribute assets from the account the 10% early withdrawal penalty may apply. There are certain exceptions to this rule, including for “non-eligible” beneficiaries who must distribute the entirety of the account within 10 years (open tab “The original account holder passed away after December 31st, 2020” under “The SECURE Act – What it means for beneficiaries”).
You are over the age of 59 ½.
If you decide to take distributions from the account, you will not incur early withdrawal penalties. Please keep in mind that this does not refer to potential taxes on the distributions depending on the account type.
The account holder was recently divorced.
The IRS determines your marital status as of January 1st of each year, which means the former spouse remains a beneficiary for the entire year even if they become divorced from the original account owner. If the original account owner happens to divorce and pass away within the same year and they failed to change the beneficiary designation prior to their death, then the former spouse would inherit the IRA. However, if the original account owner changed the beneficiary designation in the same year of the divorce, then the former spouse will not be considered the sole beneficiary for that year.
Designate your beneficiary for your inherited IRA account.
You can and should designate a beneficiary for the account that you have inherited.
Links to various IRS publications and sources: