Individual Retirement Accounts have been confusing since they were first created in 1974 as a way for people without pensions to save for retirement. The withdrawal rules, in particular, were extremely confusing. Even the experts got things wrong. The rules now continue changing, so keeping track of changes matters, says a recent article, “The Most Confusing Inherited IRA Questions, Answered,” from Think Advisor.
The SECURE Act of 2020 created two distinct classes of IRA beneficiaries: eligible designated beneficiaries and non-eligible designated beneficiaries. The eligible designated beneficiaries are a surviving spouse, minor child, disabled person, chronically ill person, or a beneficiary less than ten (10) years younger than the deceased account owner, and some see-through trusts benefiting the eligible designated beneficiaries. A see-through trust is any trust where income and tax benefits pass directly to beneficiaries.
The non-eligible designated beneficiaries include anyone who is not a designated beneficiary. This means adult children, non-spousal beneficiaries, and some types of trusts.
The rules for Required Minimum Distributions (RMDs) have undergone significant changes. If you inherited an IRA in years before 2020, you don’t need to go back and take RMDs. The IRS has also waived RMDs for inherited IRAs if the original account owner died after their own required beginning date for 2024, which also applies to IRAs inherited in 2020, 2021, 2022, and 2023.
For 2025, you’ll need to look at the life expectancy for the first year after the year when the IRA was inherited, then subtract one year to get to the 2025 factor. By the end of the tenth year, you’ll need to have emptied the account.
Note that these rules apply only if the beneficiary, subject to the ten-year rule, inherited the IRA when the owner died on or after their own RMD date. If you inherit an IRA from someone who died before their RMD, you are required to empty the inherited IRA within ten years.
Spousal beneficiaries have the most options regarding what to do with an inherited IRA. They can transfer the IRA assets to a new or existing IRA or into their own IRA. In some instances, they can transfer the assets into an inherited IRA subject to the ten-year withdrawal limits or take a lump-sum distribution.
These changes have led many to consider adjusting their estate plan, so taxes don’t severely diminish the inherited IRAs. Converting an IRA to a Roth IRA and paying the taxes for the heir is one option. The account owner must live five years after the conversion for the beneficiary to avoid paying income taxes on the inherited IRA. Another is leaving a different asset to heirs and giving the IRA in part or entirety to a charitable organization.
Consult with your estate planning attorney to fully understand how these changes impact your plan for wealth distribution and explore other means of distributing your wealth and minimizing the tax impact on heirs.
Book a call today with St. Louis estate planning attorney Tony Westbrooks to discuss how an estate plan could impact distribution of your retirement assets.
Reference: Think Advisor (Dec. 23, 2024) “The Most Confusing Inherited IRA Questions, Answered”