What is an ‘Inherited IRA’
An Inherited Ira is an account that is opened when an individual inherits an IRA or employer-sponsored retirement plan after the original owner dies. The individual inheriting the Individual Retirement Account (IRA) (the beneficiary) may be anyone — a spouse, relative, or unrelated party or entity (estate or trust). Rules on how to handle an inherited IRA differ for spouses and non-spouses, however. An inherited IRA is also known as a “beneficiary IRA.”
Breaking Down ‘Inherited IRA’
A beneficiary may open an inherited IRA from a variety of eligible IRAs, including traditional, Roth, rollover, SEP and SIMPLE IRAs. Assets held in the deceased individual’s IRA have to be transferred into a new inherited IRA in the beneficiary’s name. This transfer must happen even if a lump-sum Distribution is planned. Surviving spouses may roll over assets into their own account, however. Contributions may not be made to an inherited IRA.
If the owner had already begun receiving required minimum distributions (RMDs) at the time of their death, the beneficiary must continue to receive the distributions as already calculated or submit a new schedule based on their life expectancy. If the owner had not yet chosen an RMD schedule or reached 70½ years in age, the beneficiary of the IRA has a five-year window to withdraw the funds, which will be subject to income taxes.
Inherited IRAs: Rules for Spouses
Spouses have more flexibility in how to handle an inherited IRA. For one, they can transfer the existing IRA into their name and defer distributions until RMDs are required (non-spouses do not have this option). Surviving spouses need not take distributions from an inherited IRA right away. They have 60 days from receiving a distribution to roll it over into their own IRA as long as the distribution is not a required minimum distribution.
Inherited IRAs: Rules for Non-Spouses
Non-spouse beneficiaries are subject to required minimum distributions and may not treat an inherited IRA as their own. They may not make contributions or roll over assets into or out of the inherited IRA. Taxes are not due until distributions are received. Non-spouses may not leave assets in the original IRA and continue to receive distributions from that account. The assets must be distributed by a lump-sum payment or transferred to an inherited IRA.
Generally, assets in inherited Roth IRAs must be distributed by the end of the fifth calendar year after the year of the original IRA owner’s death unless a lifetime benefit is due. If a spouse has inherited the Roth IRA, they may delay distributions until the deceased IRA owner would have reached age 70½ or treat the Roth IRA as their own.
The Internal Revenue Service provides guidelines for inherited IRA beneficiaries. IRS forms 1099-R and 5498 are required for inherited IRAs. Tax laws surrounding inherited IRAs are quite complicated. Beneficiaries should seek the advice of a tax professional if they inherit an IRA.
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