As anyone who has experienced the death of a person close to them can attest, there is a mountain of paperwork that comes with death. Deciding what to do with any retirement accounts that you may inherit is one such example.
This article focuses on the beneficiary (the person receiving the assets), not the executor or administrator (the person who distributes the assets)—although in many instances these are the same person.
When you inherit an individual retirement account (“IRA”), your options depend on your relationship to the decedent, the year of death, and whether the decedent died before or after required minimum distributions (“RMDs”) were set to begin. This article outlines the options available when you inherit an IRA from your spouse. Read my companion article if you want to review the options available when you inherit an IRA from someone besides your spouse.
Whether someone is your spouse as of the date of their death depends on state law. If you are unsure, consult an attorney.
The year of death factor considers whether the decedent died in 2019 or before, or 2020 or later. This matters because the law changed—allowing more favorable options—as of January 1, 2020. (I am still including the “2019 or before” information because many folks are still dealing with such accounts.)
The RMD factor considers whether the decedent died on or after their RMD beginning date.
An RMD is the minimum amount that must be withdrawn from the IRA each year.
A person’s RMD beginning date is the deadline for their first RMD.
Because a person’s RMD beginning date is based on their age, you can calculate this yourself if you know their date of birth. Since we are talking about spousal inheritances here, you probably already know this! A copy of the birth certificate or death certificate will also have this information. (Be sure to keep copies of these documents in a safe place.)
This table outlines your options when you inherit an IRA from your spouse. Each is explained in more detail below.
A special note regarding Roth IRAs: Because inherited Roth IRAs are subject to the same RMDs as inherited traditional IRAs, the above table applies whether you inherit a Roth or traditional IRA.
Another note regarding Roth IRAs: Remember that withdrawals of Roth IRA contributions are always tax-free. Most withdrawals of earnings from an inherited Roth IRA are also tax-free, but withdrawals of earnings may be taxed if the Roth account is less than five years old. Each conversion also has its own five-year clock, so if you convert a traditional IRA to a Roth IRA, you must wait five years to avoid taxation. Get an account history for the last five years preceding death and review it with a tax professional to verify the age of the account.
Options detailed
The path of least resistance is simply designating yourself as the account owner, and leaving the existing IRA otherwise intact.
The next easiest option is rolling the IRA into your own IRA, if that option is available. This is exactly what it sounds like. Initiate a direct trustee-to-trustee transfer like you would when consolidating your IRA or other workplace retirement accounts. You can roll it into an existing IRA or set up a new one first. Just be sure you are rolling it into the same type (i.e., traditional to traditional, or Roth to Roth). If you want to convert it later that is a separate issue, but wait until it is in your own name first.
Another option is to take RMDs based on your own life expectancy. Find your remaining life expectancy from Table I in Publication 590-B (based on your age as of December 31). Divide the prior year-end account balance by your remaining life expectancy. The result is your RMD for the current year. Be aware that your RMD must be calculated every year. Your IRA custodian can calculate this for you, and many IRAs have “automatic RMD” features you can utilize.
For example, if you will be 37 years old on December 31, 2023, your remaining life expectancy per Table I is 48.6. If the IRA account balance was $280,000 on December 31, 2022, your RMD for 2023 is $5,761 (i.e., $280,000 ÷ 48.6, rounded to the nearest whole dollar).
You can also start RMDs in the year when the decedent would have turned 72. Follow the steps outlined above for your own life expectancy, except that you do not need to take your initial RMD until the year in which the decedent would have turned 72. If the decedent was at least 71 when they died (or would have been 71 had they lived the entire year), then this option is superfluous.
If you choose the five-year rule option, you must withdraw the entire balance by the end of the fifth year after the decedent’s death. If you inherit an IRA from your spouse that dies in 2023, you must withdraw the entire balance by December 31, 2028. (You may, but are not required to, take distributions prior to that date.)
The ten-year rule is exactly like the five-year rule, except with a longer time frame. If you inherit an IRA from your spouse that dies in 2023, you must withdraw the entire balance by December 31, 2033.
RMD for the year of death
The above options outline the RMDs that will apply beginning in the year after the decedent dies. If your spouse dies in 2023, RMDs as outlined above will start in 2024.
If a spouse dies in 2023, however, an RMD may still apply. If your spouse would not have had an RMD for 2023 had they lived the entire year, then you have no RMD for 2023. If your spouse had an RMD for 2023 (or would have had one had they lived the entire year), then your RMD for 2023 is whatever portion of their RMD was not taken prior to death. For instance, if your spouse had a $785 RMD for 2023, but died before taking it, you must withdraw $785 from the IRA by December 31, 2023. On the other hand, if they had already taken their full $785 RMD for 2023 before their death, then you have no RMD for 2023.
An excise tax penalty applies to the portion of any RMD not taken. The penalty can be lower if the shortfall is timely corrected, and may be waived entirely if you can establish that the shortfall was due to “reasonable error” and you are taking steps to remedy it. (This relief might be available if, for instance, your spouse dies near the end of the year.)
Additional considerations
There are some additional considerations (in no particular order) to keep in mind when weighing your options.
First, because RMDs do not apply to Roth IRAs while the account holder is alive, the “before RMD beginning date” options are available to Roth IRA beneficiaries regardless of age. (Note that the “before” options include all the “after” options, plus extras.) That said, RMDs apply to Roth IRAs after the account holder dies.
Second, treating the inherited IRA as your own—whether you designate yourself as the account holder and leave it as is, or roll it over into your own IRA—is an option that is only available to spousal beneficiaries. Once you are the account holder, you no longer need to worry about any of this, because it is now your IRA, not an inherited account. Depending on your age, this may allow you to delay any RMDs for a longer period of time. If you inherit a Roth IRA from your spouse and want to avoid RMDs altogether, treating the IRA as your own is the way to go.
If you are going to treat an inherited IRA as your own, rolling it over to your own IRA—even if it stays at the same brokerage—is probably easier in the long run than designating an existing IRA as your own since a rollover results in one less account to manage and track. Of course, once you designate it as your own, you can always roll it over later because, after all, it is yours.
Third, even if you treat the inherited IRA as inherited, you can still either leave the account in place or roll it over elsewhere. If you roll it over, it would still be titled in the name of the decedent, with you listed as a beneficiary. For example: “Decedent FBO Beneficiary” (where FBO means “for the benefit of”).
Fourth, you cannot roll RMDs over into another retirement account. An RMD must be a true withdrawal. Any RMD not taken by the required date is subject to an excise tax penalty of up to 50%. It is no coincidence that the penalty for failing to take an RMD can be higher than the tax on that RMD.
Next, remember that your RMDs must be recalculated every year. This was mentioned above but it bears repeating. A distribution that exceeds your RMD in one year cannot be applied toward the RMD of a future year.
Relatedly, and perhaps most importantly, an RMD is exactly that—a minimum distribution. You can take more than the required minimum at any point. You can even empty the entire account at any point. Within a particular year, you do not have to wait until December 31 to take the RMD for that year; you can take it at any point, even on January 1. If the ten-year rule applies, for instance, you do not have to wait ten years to empty the account; you could empty the account in year four. You should always choose the option that gives you lower RMDs because it keeps your options open to the greatest extent possible.
Further, when weighing your options and planning your distribution schedule, consider the tax consequences of any distributions. Do not let that stop you, of course—I would rather have an extra $10,000 and be taxed on it than not have that $10,000 in the first place—just prepare accordingly.
One important tax consequence is that distributions from an inherited IRA are not subject to an early-withdrawal penalty. If you take a distribution from your own IRA before age 59.5, you will incur an early-withdrawal penalty unless an exception applies. This is not the case if you withdraw money from an inherited IRA before age 59.5. If you own both an inherited IRA and your own IRA, using the inherited IRA first is generally a good strategy. Keep this in mind when deciding whether to treat an IRA from your spouse as an inherited IRA or your own IRA. Once it becomes your IRA, the restrictions on pre-age 59.5 distributions apply.
Finally, this discussion only applies to IRAs. If you inherit a retirement account besides an IRA—for example, a 401(k) account—your options will depend on that particular plan. Contact the plan administrator, and be prepared to provide a copy of the death certificate.
Which option is best for me?
Nobody can answer that question except for you. The best option depends on your long-term financial plan, which will necessarily vary from person to person. Consult a trusted advisor when weighing your options to make sure you get the best outcome.
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