Perspectives

The Great Generation Wealth Transfer is Here

Prepared by David LeCompte Bridgeworth News

According to a recent article in Investment News, approximately $26 trillion dollars will be transferred from one generation to the next over the next few decades. Chances are good that you will need to know the rules for inheriting an IRA and failure to understand the rules can cost you in both excess taxes owed and the loss of tax deferred growth.

General Options

For Spouses Only: Transfer the money into a retirement account of your own using the special spousal privilege. The same rules apply regarding when and how money can be withdrawn as if the account had always been yours.

Transfer Assets to an Inherited IRA: This could pertain to a spouse but is more typical of someone other than a spouse; a child inheriting from a parent or grandparent, or a sibling inheriting from a sibling. There are Required Minimum Distributions (RMDs) – see below. Generally, the money in an Inherited IRA can continue to grow tax-deferred, and withdrawals can be made immediately without incurring a penalty. This is sometimes referred to as the Stretch IRA. This allows the beneficiary to take minimum withdrawals, leaving the assets in the IRA for as long as possible.

Take All the Assets Immediately: An Inherited IRA will be opened in your name and you can choose to take a single lump sum distribution. Be aware that taking a lump sum taxable distribution may push you into a higher tax bracket.

Withdraw Assets Using Five-Year Method: Open an Inherited IRA and fully liquidate the account by 12/31 of the fifth year following the account holder’s death.

Disclaim the Account: For tax purposes, you may prefer to pass the assets to an alternate beneficiary. This option must be declared within nine months of the original owner’s death and before you take possession of the assets.

Before You Decide

Who Inherited the Account? It is important to know if the designated beneficiary is an individual or an entity such as a trust or an estate.

The Age of the Person Who Died: For inherited accounts, it is the original account holder’s age that determines when the Required Minimum Distributions (RMDs) must begin.

  • Date you must begin taking RMDs is generally determined by whether the original account holder had reached 70 1/2 or their Required Beginning Date (April 1 of the year after the accountholder reached or would have reached 70 1/2). If the account holder was over 70.5, the beneficiary must either open an Inherited IRA and use the life expectancy method or take a lump sum distribution.
  • You may incur a 50% IRS penalty if you do not take the RMDs.
  • The amount of the RMD is typically based on your life expectancy and the year-end value of your account.
Case Study #1: The Life Expectancy or Stretch Method

Ten year old Leslie inherits a $30,000 IRA from her aunt and her parents open an Inherited IRA with the assets. They limit Leslie’s annual withdrawals to the minimum amount required. Assuming the account earns 6% annually and Leslie withdraws the required minimum amount over her 82-year life expectancy for 72 years, her aunt’s initial $30,000 gift could turn into a cumulative inheritance of $2 million.

Case Study #2: When the Special Spousal Privilege May Not Be the Best Option

Dan’s wife dies unexpectedly leaving him to care for their two small children. Dan worries about how he will cover the mortgage and child care without his wife’s income. Instead of transferring the money to his own IRA – where it would be subject to a 10% early withdrawal penalty if Dan withdraws before he reaches age 59 1/2 – Dan opens an inherited IRA. With an Inherited IRA, Dan can make withdrawals at any time without the 10% penalty and allow his wife’s assets to continue to grow tax-deferred and keep it readily available should the need arise.

Talk to your advisor and/or tax advisor to make sure you understand your option before you make any decisions or take any action. There are rarely do-overs with the IRS.

This commentary is provided for information purposes only and does not pertain to any security product or service and is not an offer or solicitation of an offer to buy or sell any product or service. Any opinions expressed are based on our interpretation of the data available to us at the time of the original publication of the report. These opinions are subject to change at any time without notice. Bridgeworth, LLC does not undertake to advise you of any changes in the views expressed herein. Unless otherwise stated, all information and opinions contained in this publication were obtained from sources believed to be accurate and reliable as of the date published or indicated and may be superseded by subsequent market events or other reasons.

Bridgeworth, LLC is a SEC registered investment advisor. Bridgeworth does not offer tax or legal advice, you should consult your own tax or legal advisor.

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