How Do I Cash Out an Inherited Roth IRA?

How do I cash out an inherited Roth IRA

Rules surrounding inheriting an IRA can be complex, even by IRS standards, so seeking professional advice to ensure compliance and maximize growth can be valuable.

Eligible beneficiaries can treat an inherited Roth IRA as their own and avoid required minimum distributions. However, they must close out their account within 10 years or they risk incurring penalties.

Taxes

Roth IRA beneficiaries typically must clear out the account within 10 years after its original owner dies; however, thanks to retirement laws passed in 2020 and 2023, beneficiaries now have more flexibility with withdrawals spread out over their lifetimes – says Slott.

RMDs must begin no later than April 1 of the year following reaching age 70 1/2 and are calculated using your life expectancy factor and account balance from end of prior year. Beneficiaries can avoid taxes by spreading out their RMD payments over their lifetime; however, doing so may put them into higher tax brackets.

IRS offers comprehensive rules on distributions from IRAs. However, inheriting an IRA presents its own set of tax complexities; seeking professional advice may be worthwhile – particularly for larger sums involved. True Tamplin is a financial education specialist and contributor to sites such as Finance Strategists and UpDigital; in addition he addresses both business and college audiences on topics related to personal finance and technology. True is both Certified Financial Planning(r) and Certified Educator in Personal Finance(CEPF).

Withdrawals

If the original account owner was a spouse, the inheriting spouse can treat the IRA like his or her own Roth IRA and withdraw tax-free assets after five years have passed without withdrawing them from it. However, beneficiaries must still take required minimum distributions (RMDs); an IRS life expectancy factor will determine their RMD amount.

Before the SECURE Act went into effect in 2020, beneficiaries could reduce their tax bills by spreading out withdrawals over their life expectancies. Under its new rules, this option no longer exists for non-spouse beneficiaries; their time frame to empty an IRA has been cut in half from 15 to 10 years with a 50% penalty applied if distribution requirements aren’t met; even shorter deadlines apply if beneficiaries inherit one from an estate or trust; they have five years to empty out their account completely.

Rollovers

Complex issues arise if you inherit from multiple accounts, or the deceased was not your spouse. Furthermore, it’s essential that you fully comprehend any tax implications related to each option you consider.

Doing a direct rollover can help you transfer funds to your own IRA account. Your new provider should give specific instructions for how to complete this transaction, while some even allow transfers through wire.

An inherited Roth can also be opened and utilized with the 10-year distribution method to avoid early-withdrawal penalties, although you may need to take required minimum distributions (RMDs) every year according to a formula that incorporates your life expectancy and balance at year’s end – for which a fee-only financial planner could help determine which option would work best in your situation.

Investments

Beneficiaries who inherit an IRA must consider how much in taxes they’ll owe before withdrawing funds from it, either taking a lump sum distribution immediately or stagger withdrawals to avoid paying tax penalties, Gagnon advises. Spreading withdrawals out may work better as it helps level out their tax exposure; taking large distributions all at once could increase tax exposure considerably, she said.

One advantage of the 10-year rule is that heirs don’t need to begin taking required minimum distributions (RMDs) until all investments have been distributed, allowing their investments to keep growing tax-free for years. This can be particularly advantageous if heirs don’t need immediate financial needs met right away or want to build wealth through retirement savings over decades. Note, though, that RMD rules differ for Roth IRA beneficiaries depending on their relationship to the original account owner as well as when he or she died.


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