The Millennials’ Guide to Inherited IRAs
Most Millennials understand they need to save for retirement. Among other things, this often means investing in an IRA (Individual Retirement Account).
However, what you may not know is that it’s also possible to have Inherited IRAs too. Just like other assets, someone could leave their IRA to you in their will.
Inherited IRAs Are Going to Become More Common
At the moment, you might not know anyone who has inherited someone’s IRA. Going by a recent study carried out by a consulting firm called Accenture, though, the Baby Boomers have begun handing down their money and over the coming decades, this should be to the tune of over $30 trillion.
So while you may not think inheriting an IRA is something that will ever happen to you, it’s definitely a possibility.
Therefore, it’s worth knowing about the two likely scenarios you’ll find yourself in if this happens.
The Owner Died Before Their IRA’s Required Beginning Date
Everyone with an IRA also has an RBD (Required Beginning Date) for taking required minimal withdrawals. The April 1st following the IRA owner reaching 70 ½ years of age is the RBD.
If the owner dies before this date and leaves their IRA to a non-spouse, the law requires that the recipient starts taking required minimum withdrawals over based on the recipient’s life expectancy.
The first of these withdrawals must happen before the end of the year that follows the death of the account holder. In the years that follow, additional withdrawals must happen before December 31st.
If you break this withdrawal law, the federal government can hit you with a penalty that’s worth as much as 50% of the shortfall—one of the harshest you’ll find in the entire Internal Revenue Code.
The Five-Year Rule
Another option you have is known as the five-year rule. It requires that you completely liquidate the IRA by no later than December 31st of the fifth year after the original account holder died.
Until then, you can take out as much—or as little—as you like without any penalties. Of course, you’d still have a tax to pay based on those funds.
Also, know that if you elect to go this route, you’re automatically foregoing years of tax-deferrals that would be your prerogative if you gradually emptied the account over the course of your life expectancy.
What Happens if the IRA Owner Dies After (or on) the RBD?
Alright, now there’s also another scenario you need to be prepared for: what would happen if the original account holder passed away on or after their RBD.
For the most part, all the stipulations we outlined above still apply. You still have to use your own life expectancy to come up with the minimum withdrawal amount. The big difference, though, would be that the five-year rule no longer applies.
Furthermore, you must make sure that the final withdraw from the IRA take place before December 31st of the year the original account holder passed away. That amount would be calculated based on how old the account holder would be if they were still alive on that date.
Inherited IRAs would definitely change most people’s lives. Again, because of the age of Baby Boomers, you can expect to hear about this thing more and more in the near future. Who knows? It may even happen to you.