What is the Best Thing to Do With an Inherited IRA?
An ideal way to handle an inherited IRA is typically rolling it over into your own retirement account, which will keep it growing tax-deferred while avoiding an early withdrawal penalty of 10%.
Cashing out could incur a large tax bill and push you into a higher tax bracket.
Roll it into an existing IRA.
An inheritance of an IRA can present many complex decisions, and any misstep could have serious repercussions. Here are a few options you should keep in mind to make the right choice for yourself.
One option would be to transfer the inherited funds directly into your retirement account using trustee-to-trustee transfers between accounts or between IRA custodians, thus allowing it to grow without required minimum distributions, thus deferring taxes until retirement occurs.
This option may be most advantageous if the deceased owner had a Roth IRA; however, keep in mind that funds must still be withdrawn within 10 years from when they first passed away to avoid additional taxes and potentially falling into higher brackets. Also keep in mind that you cannot combine multiple IRAs belonging to different owners; so this strategy wouldn’t work in this instance if an IRA were received as part of an inheritance from an unrelated individual.
If you are the spouse or an eligible designated beneficiary of an individual with an IRA, and wish to treat it as their own account, then rollover into any account of your choosing and take annual taxable withdrawals calculated using their life expectancy – you have full authority to manage their IRA as you would your own.
Non-spouse beneficiaries have until a specific deadline based on the original account owner’s age when they passed to empty their funds from that account. It is recommended to consult a financial professional and estate planning attorney to help understand your options, as they can often be complex.
Some heirs can make use of the five-year rule, which allows them to withdraw money in increments as long as their account is depleted within 10 years. Unfortunately, this means forgoing years of tax-deferred growth; furthermore it may not be suitable as a strategy for non-spouse beneficiaries without other sources of retirement income.
Cash it in.
An inherited IRA allows you to withdraw in one lump sum without incurring an early-withdrawal penalty tax, although you will owe taxes on whatever sum is withdrawn, likely increasing your tax bracket as a result.
Instead, consider spreading out distributions over 10 years, according to experts. This approach may help lower taxes owed by weighting distributions according to years with lower earnings.
This method of withdrawing an inherited IRA may be suitable for beneficiaries younger than its original account owner and want to avoid paying a 50% penalty on assets not withdrawn by their required minimum distribution (RMD) deadline. When choosing this strategy, however, it is advisable to consult a financial professional as it could have significant ramifications for both your finances and retirement planning needs – in part dependent upon both types of IRA and age of original owner.
Transfer it to a new bank.
If the deceased left their IRA to multiple beneficiaries, including you and yourself, then each must split off their portion into individual accounts in order to avoid incurring a 10% income-tax penalty for withdrawals before age 59 1/2.
Your IRA custodian must accept any inherited IRAs and you’ll need to fill out special paperwork for their transfer directly from one trustee to the other – known as direct trustee-to-trustee transfer.
If this option is chosen, the new IRA must be established and named formally as an inherited IRA, including an heir designation such as: “(Name of Deceased Owner) for the Benefit of (Your Name).” You cannot make additional contributions; this option is suitable for non-spouse beneficiaries who must adhere to the 10-year rule or start receiving regular payments by December 31 of the year following their original owner’s death.
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