Inherited IRA Frequently Asked Questions

A Traditional IRA is a retirement savings account available to anyone who can make contributions and is under age 70 1/2. There are no income limits to qualify but the attractive tax benefits are only available to individuals who meet certain eligibility requirements.

Who can inherit an IRA?

Anyone can inherit an IRA, although how and when you can withdraw funds depends on the type of IRA and your relationship to the original accountholder. Here is a breakdown of how you can handle an inherited IRA in each scenario.

I. Treat the IRA as your own

If you inherited an IRA from your spouse and are the sole beneficiary, you may choose to transfer the assets into your existing IRA or a new one. With this method, you may also designate your own IRA beneficiary. This is the only method exclusively available to spousal beneficiaries.

For Traditional IRAs, the same contribution and withdrawal rules apply to the inherited account. You can access the money at any time, but normal withdrawal penalties apply before age 59 ½. The one exception is that if your spouse was over age 70 ½ and had not already taken the required minimum distribution (RMD) for the year of death, you must do so regardless of your own age for that year only.

For Roth IRA, the same rules apply as if the IRA had been originally yours. Earnings are usually taxable until age 59 ½ and the account has been open for at least five years.

II. Open Inherited IRA using Life Expectancy

A beneficiary may choose to open an Inherited IRA and transfer the assets into it. With this method, you may also designate your own IRA beneficiary.

For Traditional IRAs, RMDs are enforced and you are taxed on each distribution. However, you will not be subject to the early withdrawal penalty of 10%. If there are multiple beneficiaries, each should establish their own account by December 31st of the year following the year of death.

• If the beneficiary is a spouse and the accountholder was under 70 ½, this option allows you to spread out annual distributions over your life expectancy. However, you must begin taking RMDs by the end of the year she would have reached 70 ½ regardless of your age.
• If the beneficiary is not a spouse and accountholder was under 70 ½, this option allows you to spread out annual distributions over your life expectancy. However, you must begin taking distributions beginning no later than December 31^st of the year after the year of death.
• If accountholder was over 70 ½, this option allows you to spread out annual distributions over your life expectancy or the deceased accountholder’s remaining life expectancy, whichever is longer. However, you must begin taking an annual required minimum distribution beginning no later than December 31^st of the year after death. In addition, if the original accountholder didn’t take an RMD in the year of death, an RMD must be taken from the account by December 31^st of that year.

For Roth IRA, RMDs are enforced. Distributions may be taken tax-free, assuming the account has been opened for five years. You will not be subject to the early withdrawal penalty of 10%. With this method, you may also designate your own IRA beneficiary. If there are multiple beneficiaries, each should establish their own account.

• If the beneficiary is a spouse, this option allows you to take out RMD beginning December 31^st of the year after the year of death or when the accountholder would have turned 70 ½, whichever is later.
• If the beneficiary is not a spouse, this option allows you to spread out annual distributions over your life expectancy. However, you must begin taking an annual RMD beginning no later than December 31^st of the year after death.

III. Open Inherited IRA using Five Year Method

For Traditional IRAs, if the accountholder was under 70 1/2, any beneficiary can withdraw money at any time up to December 31^st of the fifth year after the year of death. The full amount must be withdrawn then. While distributions are taxed, there is no 10% withdrawal penalty.

For Roth IRAs, the same guidelines on distributions apply for all beneficiaries and accountholders of any age. The difference is that distributions are not taxed if the account has been opened for five years, and there is no 10% withdrawal penalty.

IV. Lump Sum Distribution

The last option regardless of the beneficiary’s status or accountholder’s age is a lump sum distribution.

For Traditional IRAs, you receive the entire amount at once. You will pay income taxes on the distribution but will not be subject to the 10% withdrawal penalty. Note that using this method may cause you to move up into a higher income bracket.

For Roth IRAs, you also receive the entire amount at once. As long as the account has been opened for over five years, earnings are not taxable.

Don’t forget to take action

Remember to deal with an inherited IRA in a timely manner. Simply neglecting a few minor details can result in automatic actions being taken in the distribution process. Stay in control of your beneficiary IRA by keeping track of your required next steps.