Yes, Individual Retirement Accounts (IRAs) can be transferred to heirs after death. However, many of the restrictions regarding use of the funds in an IRA remain on the account. Allowing the account to be inherited instead of just the money in the account does provide the opportunity for continued tax deferred investing, which can increase the value of the inheritance. However, the tax laws regarding inheriting an IRA can be very complex. Many of the rules will also depend on whether the inheritor is the spouse of the deceased.
What Are the Rules Regarding Spousal Inheritance?
Inheriting an IRA from a spouse is less complicated and provides more options than inheriting from a non-spouse. A spouse can decide to:
- Roll it over into another account: A spouse has the option of adding the inherited account into his or her own IRA, and continue making contributions to it. Non-spouses do not have this option, and they cannot continue adding money to the account.
- Remain a beneficiary: The inheritor can simply withdraw money from the account as a beneficiary. In this case, the IRA is transferred to a beneficiary distribution account, with both the deceased person's and inheritor's names on it. This option can provide significant advantages if the surviving spouse is younger than 59 1/2, the age at which he or she can withdraw from his or her own account.
- Cash out the account: The spouse does have the option of withdrawing all of the money, but there are serious penalties for early withdrawal. There are also other tax implications, since the money will be taxed as income.
By keeping the account, either as a beneficiary or through a roll-over, the spouse can defer taking funds out of the IRA until the age 70 1/2, the point at which annual required minimum distributions begin. This deferral option can be a significant benefit for younger surviving spouses.
What Are the Rules Regarding Non-Spousal Inheritance?
Non-spouses have fewer options and face more restrictions when inheriting IRAs. If the inheritor is not a named person, but rather a trust, estate, or other entity, all of the money must be withdrawn and taxed within five years, if the deceased had already begun withdrawing money from the account. If several beneficiaries are named, it is important that they divide account among themselves as soon as possible so that each beneficiary can decide how to handle their own account.
Generally, non-spousal inheritors have two options:
- Remain a beneficiary
- Cash out the account
It is important that the inheritor make a decision and begin taking any minimum required distributions by December 31 of the year after the account owner's death to avoid taxes and penalties.
Do I Need a Lawyer?
The tax laws regarding inheriting IRAs are very complex. There are many specific requirements and opportunities for penalties and taxes that a tax attorney can help you avoid. A lawyer can advise you of the option that is best for you and help you get the most out of the account.