How Do I Avoid Paying Taxes on an Inherited IRA?
When inheriting an IRA, it’s essential that you understand all your options. Depending on your specific circumstances, you could either need to empty it within 10 years or spread withdrawals out over your lifetime.
As tax rules can be quite complex, there may be certain steps you can take to minimize your taxes. Consult a financial professional in order to discuss all available strategies.
Take a Lump-Sum Distribution
Based on how you acquired an IRA — as either a spouse beneficiary or eligible designated beneficiary — you should implement strategies to manage withdrawals and minimize tax bills as much as possible. For instance, taking larger withdrawals during years when your income drops lower is one approach or even considering switching over to Roth IRA if eligible beneficiary status exists.
Consider making a lump-sum distribution from your IRA instead of taking required minimum distributions (RMDs) annually. However, remember that doing so will require paying taxes when withdrawing the money – potentially pushing your taxable income up into higher tax brackets.
Expert guidance should always be sought when handling an inherited IRA to reduce tax liabilities and maximize potential returns. Bankrate’s AdvisorMatch service connects you with professionals specializing in inheritances of this nature who can review your situation and suggest the most beneficial course of action based on individual needs and circumstances.
Utilize Charitable Planning
An effective way to decrease the taxable portion of an inherited IRA is naming charity as its beneficiary. Public charities, including donor-advised funds, make for excellent beneficiaries since they do not pay income tax on distributions from an inherited IRA.
if your client would like to leave some of their inherited IRA to charity, qualified charitable distributions (QCD) from it after turning 70 1/2 are an option. They can distribute up to $100,000 directly from their account each year to a qualifying non-profit or charity organization.
This strategy may prove invaluable if your client finds themselves in a higher tax bracket now than they will be at retirement and doesn’t wish to increase their income taxes by withdrawing more funds from an IRA. Furthermore, this method can also benefit them if they wish to leave assets such as appreciated stock directly to family members that will receive an increased basis upon your client’s death thereby eliminating capital gains taxes that might otherwise become payable upon their death.
Disclaim the Inheritance
An inherited IRA requires beneficiaries to take distributions within 10 years if it is a traditional IRA; otherwise, tax will be due on its entire balance. If you want to keep the account, set up a trustee-to-trustee transfer in your name so assets continue to accumulate tax-deferred and take distributions over either your life expectancy or that of the original account holder’s.
However, if the funds won’t be needed or their tax burden will be too great for your comfort level, disclaiming can be an option to consider. Doing this allows the assets to pass to another beneficiary who would use them more while being subject to lower tax brackets; sometimes this even saves on probate costs! You can disclaim either all or some of your assets such as home repairs. It’s essential that you fully explore all available options so you can make informed decisions that benefit both yourself and your family.
Transfer the Inheritance
IRS rules cover inherited IRAs in detail, but having access to professional guidance can make understanding your options and avoiding costly errors much simpler. While many answers to your queries might be found online, investing in expert assistance will pay dividends throughout the complex process of inheriting one.
Inheriting an IRA presents unique tax challenges, and how it’s treated varies based on your relationship to its original account holder. Spouses have one set of options when inheriting from someone who’s a spouse while beneficiaries who are minor children, chronically ill/disabled persons, or not more than 10 years younger may qualify differently than spouses. Even if none of these exceptions apply to you, steps may still be taken to minimize income tax liability, including taking a lump-sum distribution and using charitable planning techniques as well as saving fees using money transfer providers like OFX/Worldfirst for transfers.
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