IRA Distributions after the Owner's Death
1. What happens to an IRA after its owner’s death?
After the death of its owner, an Individual Retirement Arrangement (“IRA”) will be distributed in accordance with the most recent beneficiary designation on file with the IRA custodian. If there is no beneficiary designation on file, or if the named beneficiary does not survive the account owner, then the balance of the account will be paid to the IRA owner’s probate estate. A beneficiary designation is usually made on a pre-printed document signed by the IRA owner, although many custodians accept designations electronically on a website. The IRA owner’s will is not considered a beneficiary designation.
2. Are IRA distributions taxable to the beneficiary?
The beneficiary of a traditional IRA must pay income tax as the funds are received. A Roth IRA is funded with after-tax dollars, so the beneficiary inherits the account free of income taxes.
3. What are Required Minimum Distributions?
A living owner of a traditional IRA must begin to take distributions from the account during the calendar year during which the account owner attains age 73 years of age – even if the owner does not need the money. The required amount is called the required minimum distribution ("RMD"). Each subsequent year federal tax laws require the owner to take a distribution from the account, which is calculated using a division table based loosely on life expectancy estimates. The initial RMD is small in percentage, but the percentages will increase in size as the owner gets older.
After the account owner’s death, a named beneficiary will usually be required to fully withdraw all inherited funds by the end of the year which includes the 10th anniversary of the account owner's death ("10-year liquidation rule"). There are exceptions for children under age 21 and chronically ill or disabled beneficiaries, which may permit a longer period of distribution. In addition, in most cases, the beneficiary must take a RMD each year if the account owner had already attained his or her required beginning date (age 73). If not, then no distributions are required at all until the end of the 10-year liquidation period. Note there is no required beginning date for Roth IRAs.
4. What is the best payout option for a surviving spouse beneficiary?
From a pure income tax optimization perspective, the best result occurs when the beneficiary is a surviving spouse. A surviving spouse can “roll over” the IRA into the spouse’s IRA. This permits a younger spouse to wait until age 73 before starting to take RMDs. Also, a surviving spouse calculates RMDs using a different, more favorable, IRS tax table. A third benefit is that the spouse’s life expectancy is recalculated each year so that RMDs increase at a slower pace than they would for a non-spouse beneficiary.
5. May a trust be named as IRA beneficiary?
Yes, there are two primary reasons for doing this. First, the account owner may want to compel long term income tax deferral (to the extent permitted by tax laws) rather than assuming the beneficiary will elect it. Second, a trust may include powerful asset protection features, which may be helpful when the intended beneficiary is a minor child, or receiving government needs-based benefits, or shows evidence of being a spendthrift, or is involved in ongoing litigation, or is in a fragile marriage, or is recovering from a bankruptcy, or works in a high risk profession for getting sued. Naming a trust as beneficiary may also be helpful to protect the beneficiary's interest in the event of divorce.
About the Author
Thomas J. Bouman provides legal counsel in the areas of estate planning, estate settlement, and asset protection. He brings a highly systematic approach to the practice of law, which is critically important when wading through the complex, and often bizarre, legal requirements associated with estate and trust law. Mr. Bouman is author of the Arizona Estate Administration Answer Book and a prominent member of Wealth Counsel, LLC, the nation’s premiere organization of estate planning attorneys.
After the death of its owner, an Individual Retirement Arrangement (“IRA”) will be distributed in accordance with the most recent beneficiary designation on file with the IRA custodian. If there is no beneficiary designation on file, or if the named beneficiary does not survive the account owner, then the balance of the account will be paid to the IRA owner’s probate estate. A beneficiary designation is usually made on a pre-printed document signed by the IRA owner, although many custodians accept designations electronically on a website. The IRA owner’s will is not considered a beneficiary designation.
2. Are IRA distributions taxable to the beneficiary?
The beneficiary of a traditional IRA must pay income tax as the funds are received. A Roth IRA is funded with after-tax dollars, so the beneficiary inherits the account free of income taxes.
3. What are Required Minimum Distributions?
A living owner of a traditional IRA must begin to take distributions from the account during the calendar year during which the account owner attains age 73 years of age – even if the owner does not need the money. The required amount is called the required minimum distribution ("RMD"). Each subsequent year federal tax laws require the owner to take a distribution from the account, which is calculated using a division table based loosely on life expectancy estimates. The initial RMD is small in percentage, but the percentages will increase in size as the owner gets older.
After the account owner’s death, a named beneficiary will usually be required to fully withdraw all inherited funds by the end of the year which includes the 10th anniversary of the account owner's death ("10-year liquidation rule"). There are exceptions for children under age 21 and chronically ill or disabled beneficiaries, which may permit a longer period of distribution. In addition, in most cases, the beneficiary must take a RMD each year if the account owner had already attained his or her required beginning date (age 73). If not, then no distributions are required at all until the end of the 10-year liquidation period. Note there is no required beginning date for Roth IRAs.
4. What is the best payout option for a surviving spouse beneficiary?
From a pure income tax optimization perspective, the best result occurs when the beneficiary is a surviving spouse. A surviving spouse can “roll over” the IRA into the spouse’s IRA. This permits a younger spouse to wait until age 73 before starting to take RMDs. Also, a surviving spouse calculates RMDs using a different, more favorable, IRS tax table. A third benefit is that the spouse’s life expectancy is recalculated each year so that RMDs increase at a slower pace than they would for a non-spouse beneficiary.
5. May a trust be named as IRA beneficiary?
Yes, there are two primary reasons for doing this. First, the account owner may want to compel long term income tax deferral (to the extent permitted by tax laws) rather than assuming the beneficiary will elect it. Second, a trust may include powerful asset protection features, which may be helpful when the intended beneficiary is a minor child, or receiving government needs-based benefits, or shows evidence of being a spendthrift, or is involved in ongoing litigation, or is in a fragile marriage, or is recovering from a bankruptcy, or works in a high risk profession for getting sued. Naming a trust as beneficiary may also be helpful to protect the beneficiary's interest in the event of divorce.
About the Author
Thomas J. Bouman provides legal counsel in the areas of estate planning, estate settlement, and asset protection. He brings a highly systematic approach to the practice of law, which is critically important when wading through the complex, and often bizarre, legal requirements associated with estate and trust law. Mr. Bouman is author of the Arizona Estate Administration Answer Book and a prominent member of Wealth Counsel, LLC, the nation’s premiere organization of estate planning attorneys.