What to Do With an Inherited IRA

Inheriting an IRA may seem like a good thing, but there can be tax consequences if you aren't careful. If you inherit an IRA, you should check with an attorney or financial advisor as soon as possible to find out your options.

Posted on May 3, 2024

IRAs are personal savings plans that allow you to set aside money for retirement and get a tax deduction for doing so. Earnings in a traditional IRA generally are not taxed until distributed to you. At age 73, you have to start taking distributions from a traditional IRA. Earnings in a Roth IRA are not taxed, nor do you have to start taking distributions at any point, but contributions to a Roth IRA are not tax deductible. Any amount remaining in an IRA upon death can be paid to a beneficiary or beneficiaries.

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Spouse as Beneficiary

If you inherit your spouse's IRA, you can treat the IRA as your own. You can either put the IRA in your name or roll it over into a new IRA. The Internal Revenue Service will treat the IRA as if you have always owned it. If you are not yet 73, you can wait until you reach that age to begin taking minimum withdrawals. If you are over 73 and 10 or more years younger than your spouse, you can use a longer joint-life expectancy table to calculate withdrawals, which means lower minimum withdrawal amounts. If you inherit a Roth IRA, you do not need to take any distributions.

You can leave the account in your spouse's name, but in that case, you will need to begin taking withdrawals when your spouse would have turned 73 or, if your spouse was already 73, then a year after their death. If you want to drain the account, you can use the "five-year rule." This allows you to do whatever you want with the account, but you must completely empty the account (and pay the taxes) by the end of the fifth year after your spouse's death.

Non-Spouse as Beneficiary

The rules for a child or grandchild (or other non-spouse) who inherits an IRA are somewhat different than those for a spouse. You must withdraw all of the assets in the inherited account within 10 years. There are no required distributions during those 10 years, but they must all be distributed by the 10th year. Previously, you could choose to take distributions over your lifetime and pass what is left onto future generations (the "stretch" option). This option was eliminated in 2020.

Certain non-spouse beneficiaries are treated like spouses, which means they can treat the IRA as their own:

Disabled or chronically ill individuals
Individuals who are not more than 10 years younger than the account owner
Minor children. Once the child reaches the age of majority, he or she has 10 years to withdraw the money from the account.

Trust as Beneficiary

If a trust is named as a beneficiary of an IRA, the structure of the trust will determine whether the IRA must be drawn down within 5 or 10 years or "stretched" for the life of the beneficiary. It is very important that the trust is properly structured to qualify as a designated beneficiary of an IRA. For example, if the trust is set up as a conduit or "see-through" trust for the benefit of the spouse, the IRA may still be "stretched" based on the age of the surviving spouse. If you name a trust as a beneficiary of your IRA, or if you inherit an IRA in a trust, it's crucial to seek the advice of an experienced estate planning attorney to ensure that the trust is properly structured and complies with the new rules governing inherited IRAs. Contact your attorney to explore your options.

Estate Tax

If the decedent's estate was subject to an estate tax, the IRA beneficiary may be able to receive an income tax deduction for the estate taxes paid on the IRA. This is yet another complexity associated with planning for IRAs and may require the assistance of an experienced tax professional or an estate planning attorney.

Find an estate planning attorney near you to learn more about how to include an IRA in your estate plan.