Your Online Guide to IRAs, Inheriting Them, and Distributing Them in Your Will

This post contains sponsored or affilaite links. Please read my disclosure for details.

Last Updated on December 21, 2020

There is a great deal of concern surrounding IRAs and how to eventually, obtain the capital that has been placed in them for a substantial period of time. Where the confusion primary comes from is regarding taxation laws and how they apply to IRAs. Another common confusion is what will happen if the primary holder of an IRA passes away. What is important to understand is that there are different disbursement plans available to those that are spouses inheriting and those that are non-spouses. Having an understanding of the key differences between these two classifications is essential. When considering how to structure inheriting or distributing an IRA, it is wise to research carefully first. This way, you can be sure to avoid many taxation pitfalls that could cause you to lose a substantial amount of capital. If you are about to inherit an IRA or want to know more about IRAs in general, consider the information below:

What Is an IRA?

An IRA is an individual retirement account that enables individuals to direct pretax income before they receive it in their paychecks into a separate account. This account is a retirement account that can grow investments and grow without incurring additional taxation. Individuals are able to contribute up to 100% of what they earned up to a particular maximum dollar amount and other regulations that are tailored towards the type of IRA that they have What becomes tricky about IRAs is when it comes time to benefit from putting all this money away for so many years. There are very strict rules when it comes to IRAs and how withdrawals can be made because the IRS will want to collect taxes on anything that they can.

How Can IRAs be Inherited?

Inheriting an IRA is possible, of course, but the inherited IRA taxation can be complex. When considering how to inherit an IRA, it is important to be aware of which category you fall into. For example, there are types of IRA inheritance disbursements for Traditional-Spouse Inherits, Traditional Non-Spouse Inherits, Roth-Spouse Inherits, and Roth-Non-Spouse Inherits. Each one of those inheritance disbursements has different regulations for inheritance and different requirements for taxation issues.

Tips to Distributing IRAs in Your Will

Consider these recommendations when trying to access your IRA inheritance or structuring your IRA inheritance for your intended beneficiaries:

Non-Spouse Inherited IRA Withdrawal Tips

If you are a Non-Spouse and you are inheriting a Non-Spouse IRA, then there are several different options to pursue when you are going to cash out the balance.  It is important to understand that you will not be able to rollover your inherited IRA to an IRA that you already have. That said, you may be able to avoid the 10% penalty for early withdrawals by following a stricter distribution schedule. All of these options are going to depend on who your IRA custodian is, which is why its important to research this carefully.

Cash Out Immediately Option

If you are not a spouse and you are inheriting an IRA, then it is possible for you to cash out the entire balance. While this may seem like an appealing option, it is important to be careful about the tax bracket that cashing out the entire balance will put you in. Make sure to look at how much is in the IRA and then research the potential taxes you would have to pay to be sure there is not a more cost-effective option to consider.

Take Out RMDs

If it is set up properly, it will be possible to take out RMDs (required minimum distributions) for the entire duration of the oldest beneficiary’s life. This is also true if there are multiple beneficiaries listed on the IRA. This helps to divide the taxation amongst your annual tax return and have a lower tax rate in the long-term. If you are not in a rush to receive your disbursements, this could be a better way to space out money you will be receiving as well as space out the taxes that you will pay.

The Stretch Option

The Stretch Option enables you to take RMDs (required minimum distributions) throughout your own lifetime, which will lower the taxation rate. What makes this option beneficial is that the amount that remains in the IRA can continue to grow while being tax deferred. Make sure that you have a full understanding of what RMDs are with regards to your particular IRA to be sure that you are following the proper regulations to minimize your taxation and maximize the inheritance that you are eligible to receive.

Spouse Inherited IRA Withdrawal Tips

Spouses that inherit IRAs have slightly different rights than non-spouses, which are important to explore. Here are some tips to manage a spouse IRA inheritance:

Roll Over Funds to Your Own IRA

As a spouse, it is possible for you to roll over your funds to your own IRA. This is a great way for you to consolidate all of your retirement accounts into one specific place. The important aspect to be aware of is how much income you have in these accounts and how to setup withdrawing funds when you are ready to do so. It is wise to plan these withdrawals carefully and to also consult with an expert to be sure that you have taken advantage of any and all tax benefits that can be applied to your particular situation.

Act as if the Inherited IRA Is Your Own

Treating the IRA as your own is another great option. IT is beneficial to consider this to see if it has the potential to change your taxation circumstances while gaining access to your inheritance. There are two possible ways to do this. The first is to roll over the funds to your own IRA and the second is to merely name yourself as the account owner to the IRA. This is an option that is only available to spouses as they typically immediately inherit their spouse’s estate.

Treat Yourself as the Beneficiary

As a spouse, it is possible to treat yourself as a beneficiary rather than the owner of the IRA that you are set to inherit. By merely shifting the definition, there is a potential to save a great deal on taxation as well. The key to this provision is that a spouse is going to have to be younger than 59.5 years old. The reason for this is due to the distribution of RMDs that your spouse may have been taking at the time of their death. There is a way to redistribute this by calculating the distribution of RMDs based on your own life expectancy. By treating yourself as the beneficiary, you have the potential to take out penalty-free withdrawals before the age of 59.5 if your space was younger than you and had not started taking their scheduled RMDs.

Should I Consult an Expert?

There are many professionals available that have specific knowledge of how your particular IRA can apply to your finances and circumstances. It is important to research carefully any and all professionals that would be able to assist you in making the best possible decision to impact your inheritance. By conducting multiple interviews or consulting personal referrals, you will be able to find the ideal individual to assist you with handling the transfer of assets in the IRA you are set to inherit. Remember, taxation is something that can be severe and your potential loss if you do not plan effectively can be quite substantial. By taking the time to find an expert in the field of IRAs, you will be able to figure out what will potentially be the best decision for you if you are set to inherit an IRA as either a spouse or a non-spouse.

Final Remarks

IRAs have made a substantial difference in how individuals are able to strategically plan for their retirement. IRAs are designed to have penalties for withdrawing money because their whole purpose is to assist individuals in effectively saving for retirement. That said, there are certain circumstances that need to go beyond the IRA’s design such as the death of its primary owner. Spouses need to be aware of their potential rights with regards to IRAs and how they may be drastically different than non-spouses. The other factor that individuals need to be aware of is that there are multiple types of IRAs and each one has its own stipulations and taxation rules that need to be observed. By making a hasty decision to inherit capital, there may be a long-term financial loss that could otherwise be avoided with proper planning. Be sure to carefully consider how you plan to receive your IRA inheritance and enable yourself to have the maximum taxation benefit to you as possible. This way, you will be able to make the most out of the investment that your spouse or a close family member worked many years to achieve through effective financial planning and hard work.

My Life, I Guess

My Life, I Guess is a personal finance and career blog by Amanda Kay, an Employment Specialist and older millennial from Ontario, Canada that strives to keep the "person" in personal finance by writing about money, mistakes, and making a living. She focuses on what it’s like being in debt, living paycheck to paycheck, and surviving unemployment while also offering advice and support for others in similar situations - including a FREE library of career & job search resources.

This post was proofread by Grammarly. Try it - it's FREE!

Sign up and get free access to the Career & Job Search Resource Library!

Leave a Comment