Karen B. Arthur | Posted on Mar 01, 2017
The traditional Individual Retirement Account, or IRA, came into existence in 1974 when Congress enacted the Employee Retirement Income Security Act, often referred to as ERISA. With the introduction of the IRA, anyone with earned income could contribute to an IRA based on certain rules. We are now beginning to see that generation of savers passing assets to named beneficiaries. When an individual inherits an IRA, it is important to understand the rules and implications of these rules because the consequences are permanent.
If you inherit a traditional IRA from a spouse or other person, you are a beneficiary. By naming you as a beneficiary of an IRA, the original account owner has given you the opportunity to enhance your own financial security after he or she dies. The custodian of the IRA retains the beneficiary designation form, which identifies who will inherit the IRA.
A spousal beneficiary or non-spousal beneficiary can enjoy decades of income tax deferred growth. However, the rules are different for a spousal inherited IRA versus a non-spousal inherited IRA. The spousal beneficiary of an inherited IRA has the following options:
- A spousal beneficiary may choose to own the IRA and treat it as his or her own;
- A spousal beneficiary may take distributions over his or her lifetime;
- A spousal beneficiary may choose a five-year spend down and take distributions over a five-year period; or,
- A spousal beneficiary may take a lump sum taxable distribution.
A spouse who inherits an IRA can postpone taking a Required Minimum Distribution (RMD) until he or she reaches age 701/2. The surviving spouse’s life expectancy is the basis for these distributions.
A non-spousal beneficiary of an inherited IRA has fewer options, and it is important to note that the individual may not treat the inherited funds as his or her own. However, certain options available to a spouse are also available to a non-spouse as follows:
- A non-spousal beneficiary may take distributions over his or her lifetime;
- A non-spousal beneficiary may choose a five-year spend down and take distributions over a five-year period; or,
- A non-spousal beneficiary may take a lump sum taxable distribution.
When a non-spouse inherits an IRA, he or she must begin taking a RMD from the IRA by December 31 of the year after inheriting the IRA. The individual may draw the distributions over his or her own life expectancy.
If you inherit an IRA, it will be important for you to consider the options available in order to make the best decision for your circumstances. Careful planning can ensure that you are able to benefit from your inherited IRA in the most tax-efficient manner possible. Consider consulting an experienced financial planning and/or tax professional for advice on your particular situation. FCB Bank Trust & Investment Services, like other financial institution trust departments, provides fiduciary investment management services and regularly advises its clients on inherited assets.