An Inherited IRA is an Individual Retirement Account that is left to a beneficiary after the death of the original owner. If you are the beneficiary of an Inherited IRA, it is important to understand the rules and regulations that apply to your situation. In this article, we will discuss the rules of an Inherited IRA, including the 10-year distribution rule.
Types of Inherited IRAs There are two types of Inherited IRAs: traditional and Roth. A traditional Inherited IRA is an IRA that was funded with pre-tax dollars. This means that the original owner was able to take a tax deduction for the contributions they made to the account. A Roth Inherited IRA is an IRA that was funded with after-tax dollars. This means that the original owner did not take a tax deduction for the contributions they made to the account.
Required Minimum Distributions (RMDs). If you inherit a traditional IRA, you are required to take Required Minimum Distributions (RMDs) based on your life expectancy. The distributions need to start the year after the original owner’s death. The amount of the RMD is based on the balance of the account and your age. Alternatively, required distributions are not required on an inherited a Roth IRA.
Distribution Options. A beneficiary of an Inherited IRA has several distribution options. You can take a lump-sum distribution, which means you will receive the entire balance of the account immediately. However, this option may result in a large tax bill. Alternatively, you can take regular distributions over your lifetime, based on your life expectancy, or over a period of five years.
10-Year Distribution Rule for an Inherited IRA
The 10-year distribution rule applies to non-spousal beneficiaries who inherit an IRA after January 1st, 2020. So, if you inherit an IRA from someone other than your spouse, you are required to withdraw the entire balance of the account by the end of the 10th year after the year of the original owner’s death.
Under this rule, you are not required to take RMDs each year, but you must withdraw the entire balance by the end of the 10-year period. Moreover, the 10-year period is calculated from the year after the year of the original owner’s death.
Exceptions to the 10-Year Distribution Rule. There are some exceptions to the 10-year distribution rule. Spousal beneficiaries can treat an IRA that is inherited as their own and are not subject to the 10-year rule. Minor children of the original owner are also exempt from the 10-year rule until they reach the age of majority. Disabled or chronically ill individuals and beneficiaries who are not more than 10 years younger than the original owner are also exempt from the 10-year rule.
Taxable Distributions of an Inherited IRA
Taxation Distributions from a traditional Inherited IRA are subject to income tax at your ordinary income tax rate. Distributions from a Roth Inherited IRA are generally tax-free as long as the account has been open for at least five years.
In conclusion, if you inherit an IRA, it is important to understand the rules and regulations. The type of IRA you inherit will determine the rules that apply. Also, there are several distribution options available. The 10-year distribution rule applies to non-spousal beneficiaries who inherit after January 1st, 2020. There are exceptions to this rule. It is important to consult with a financial advisor or tax professional. So, each situation is unique, and a professional can determine the best course.