What Happens When You Inherit a Roth IRA?
If you inherit a Roth IRA, certain rules must be observed or you risk forfeiting ten years of tax-free growth on its earnings.
Before 2019, beneficiaries were allowed to make “stretch withdrawals”, taking small amounts each year based on their life expectancy. But with the new retirement law, this practice has changed.
Once a loved one passes, you have several choices for their Roth IRA funds. If they were married to you when they died, their money can become part of your estate; otherwise it must be cleared out within 10 years or face additional taxes and penalties.
Heirs can extend distributions over their lives, enabling funds to continue earning and compounding tax-free for longer. To calculate an annual amount, beneficiaries divide the account value at death by their life expectancy based on IRS tables.
Heirs who meet certain criteria — such as being under 59.5, chronically ill or permanently disabled, or using their withdrawal to cover first-time home buyer expenses — can avoid required minimum distributions altogether. They can reroll their account into their existing IRA to satisfy the five year holding period requirement, though mixing in both inherited and non-inherited money may complicate RMD calculations.
Roll the contents into an existing IRA.
Assume ownership and treat the account as your own (withdrawals are taxed at ordinary income rates with an early withdrawal penalty of 10% if under age 59 1/2). Also use life expectancy method when making annual withdrawals.
Other options may be less favorable. While you could open a new inherited Roth account and “stretch out” distributions over your lifetime, required minimum distributions (RMDs) must start being taken no later than Dec 31 of the year after either your spouse died or when he would have reached age 72 – which ever comes first.
Gagnon warns against taking this approach, since your IRA assets become “aggregated” when withdrawing them. As such, calculating an RMD using this amount could leave an unexpected tax bill on its way; so be sure to consult with an advisor first before taking this action.
Designate yourself as the owner.
Treating an inherited Roth IRA as your own can be the optimal solution for beneficiaries, allowing you to access its funds whenever desired without incurring an early-withdrawal tax penalty of 10%, but also necessitating you deplete it within 10 years as per IRS rules.
Only exception to this rule exists if the original account owner was your spouse; in such instances, you can extend the 10-year period by moving assets into your preexisting IRA and withdrawing funds in equal periodic installments thereby avoiding RMD penalties.
You have two other options for withdrawing the contents of an IRA: taking a lump-sum distribution and paying regular income tax and an early withdrawal penalty of 10% on it all at once, but in this instance it would be wiser to consult a financial professional and discuss all available solutions first.
Transfer the account to another IRA.
When inheriting an IRA from someone who passed away after 2019 (or any non-spouse beneficiary) and want to take required minimum distributions (RMDs), assets must be transferred into an inherited IRA account that has been specifically set up with no additional contributions allowed in it.
Take a lump-sum distribution from an inherited account to meet your needs, however this will require paying ordinary income tax and possibly an early withdrawal penalty of 10% if you’re under 59 1/2.
To best navigate an inherited Roth IRA and determine its best course of action, consider consulting a financial advisor. SmartAsset offers free tools that connect you with vetted advisors near your location – you can even interview these matches without incurring costs before choosing who best meets your needs. Get searching now.