What is the Best Thing to Do With an Inherited IRA?
When inheriting an IRA, the best thing you can do with it is roll it into your own IRA account so it becomes a part of you and avoid the 10% penalty for early withdrawals.
Beneficiaries can use the life expectancy method to reduce taxes by spreading out withdrawals across their lifetime. However, this strategy may require professional advice in order to be executed successfully.
Roll the assets into your own IRA
If you are the beneficiary of an IRA, there are various withdrawal options open to you. Either you can move its assets directly into your retirement account or leave it as an inherited IRA and take distributions throughout your lifespan; though the latter option gives more flexibility if taken before age 59 1/2 and incurs an early withdrawal penalty of 10%.
If the IRA was traditional, non-spouse beneficiaries must empty its balance within 10 years and begin taking required minimum distributions (RMDs) each year thereafter. As an alternative option for spouse beneficiaries, conversion of this account into a Roth IRA could also be considered.
No matter which path you pursue, it is vitally important to consult a tax advisor. While the IRS website contains comprehensive rules on IRA distributions, an expert can offer invaluable insight on making the best choice for your unique situation. Also ensure your beneficiary designations are current.
Take a lump-sum distribution
IRA owners typically set withdrawal windows of five or 10 years for funds in an account left with them when leaving an IRA, giving you ample time to withdraw them without penalty. You should consult a tax expert when devising your withdrawal strategy – for instance if you have high-interest debt it might make more sense to use life expectancy withdrawal instead of withdrawing all at once.
Rolling your inherited assets into an individual retirement account (IRA or workplace retirement plan in your name is another viable strategy, enabling you to treat them like they had always been yours while stretching withdrawals and taxes out over a longer period. This strategy may be particularly advantageous for spouses as both can take advantage of all applicable rules for married couples – though non-spouse beneficiaries may also wish to roll them over into separate accounts.
Take required minimum distributions (RMDs)
If you are the surviving spouse, treat the IRA as your own and roll it into your own account. This allows the assets to grow for as long as possible while spreading out any taxes you owe into manageable chunks over a longer timeframe.
However, if you aren’t the surviving spouse, required minimum distributions (RMDs) must be taken from an inherited IRA and taxed according to regular income tax rates. Failing to take an RMD will incur a 50% penalty on its amount due.
Non-spouse heirs of an inherited IRA must drain it within 10 years; you have several withdrawal options available to them. One way is the life expectancy withdrawal method, which uses IRS life-expectancy tables and your age in the year following original account owner’s death to determine your annual RMD; two others include five- or 10-year withdrawal methods.
Cash out the account
Transferring funds into an IRA under your own name is the simplest solution, providing potential tax-deferred growth while spreading out any taxes due over several years.
However, this option is only available to spousal beneficiaries and you would need to follow the same distribution rules for both accounts. Should you decide this route, an IRA custodian may request your social security number and other personal details before accepting this option.
When cashing out your account, be mindful that there may be penalties of 10% plus regular income tax on any funds that are withdrawn. In addition, years of potential tax-deferred growth or even tax-free growth (in the case of Roth IRAs) could be lost. For this reason, it is vital that you consult your financial advisor in order to make the best decision for yourself and your situation.
Comments are closed here.