One Wrong Move and the Entire IRA is Taxed | Tax Tip of the Week | No. 217

What You Need to know About Inherited IRAs

A couple of weeks ago (see TTW #211) we talked about the many advantageous of Roth IRAs.  This week we will look at inherited traditional IRAs.The advantage of owning a traditional IRAs is that they grow tax-deferred and are only taxed when you take a distribution.  Typically, if you take a distribution prior to age 59.5 you will pay a 10% premature distribution penalty.  You must also take Required Minimum Distributions (RMDs) when you reach age 70.5.  The rules of inherited IRAs, however, are very specific and need to be understood by anyone planning to leave an IRA—or if you plan to inherit and IRA.-If a spouse is the sole designated beneficiary the rules are pretty basic.  The IRA account should be retitled to their name.  (Example:  John and Mary Smith are married and John dies first.  The inherited IRA should be retitled “John Smith [deceased August 28, 2013] for benefit of (FBO) of Mary Jones, beneficiary”).  If John died before RMDs started, then the maximum distribution period is Mary’s life expectancy.  If John died after RMDs occurred, the maximum distribution period is the longer of Mary’s life expectancy or John’s remaining life expectancy.By retitling the IRA Mary can take distributions and avoid the 10% premature distribution penalty if she is under age 59.5.  If Mary is more than ten years younger than John, she should retitle the account again at age 59.5.  This lets her defer any future withdrawals until she reaches age 70.5.  If she doesn’t take this step, withdrawals must start when John would have reached age 70.5.-If a nonspouse is the designated beneficiary (John and Mary’s son, Bobby for example), they cannot roll the money into an IRA in Bobby’s name.  Once again, it should be retitled as described above in the child’s name. (Example:  “John Smith [deceased August 28, 2013] for benefit of (FBO) of Bobby Jones, beneficiary”).  If there are multiple heirs, each recipient should retitle the IRAs as described in their respective names.The maximum distribution period for the IRA is now Bobby’s life expectancy.  Once again, by retitling the IRA Bobby will avoid any premature distribution penalties if he is under age 59.5.The rules of inherited IRAs where a trust is the designated beneficiary or if there is no designated beneficiary listed go beyond the scope of this Tax Tip.If you plan on leaving an IRA to your heirs—or if you are going to inherit an IRA, you should definitely call us before calling the IRA custodian!You can contact us in Dayton at 937-436-3133 and in Xenia at 937-372-3504.  Or visit our website.

Rick Prewitt - the guy behind TTW...until next week.