The loss of a loved one is never easy. Once the funeral and visitations from friends and family pass, there are usually some financial affairs to take care of. Most accounts pass pretty simply depending on the estate planning that the person completed. However, retirement accounts have some rules that are important to understand and there were some major changes passed in 2020 that apply to retirement account beneficiaries.

While most IRA’s have beneficiaries designated to avoid probate, the complexity lies in the options available to the beneficiaries. Prior to the passage of the SECURE Act in 2020, it was fairly simple. The beneficiaries were basically categorized as spousal beneficiaries or non-spousal beneficiaries. Today, the non-spousal beneficiaries are broken down into additional classifications. We’ll summarize them and how the rules apply to each. As always, we would recommend consulting with a professional before taking any action.

Spousal Beneficiaries

The spouse has the most flexibility of any beneficiary. The simplest solution for a spouse is to take the deceased spouse’s IRA and roll it over into his or her own IRA. This makes a lot of sense if the surviving spouse is over 59 ½. The money is accessible without penalty and the funds continue to grow on a tax deferred basis. Furthermore, the surviving spouse doesn’t have to worry about taking required distributions until he or she reaches RMD age. It is worth noting that unless it is a Roth IRA that existed for at least 5 years, the withdrawals are still taxable as ordinary income.

If the surviving spouse is under 59 ½, he or she may want to consider moving the funds to a beneficiary IRA. This could be advantageous because if the spouse needs money from the IRA, it is accessible without the 10% penalty. Withdrawals are still taxable unless it is a Roth IRA that existed for at least 5 years, but it creates some additional flexibility for a young surviving spouse. The funds continue to grow tax deferred, and the survivor does not have to worry about taking required distributions until the earlier of the decedent’s RMD age or the survivor’s RMD age. If the decedent had already reached RMD age, then the surviving spouse has to take RMD’s each year.

Non-Spousal Beneficiaries

The changes from the SECURE Act impacted the non-spousal beneficiaries significantly. Prior its passing in 2020, all non-spousal beneficiaries had the opportunity to roll over to a “stretch IRA”, which enabled them to continue the tax deferral while having to take required distributions each year. The new rules eliminated that right from many people and categorized non-spousal beneficiaries as “Eligible” and “Non-eligible”. The eligible beneficiaries are still able to take advantage of the stretch IRA. The non-eligible beneficiaries have to deplete the account within 10 years.

There are three categories of eligible beneficiaries:

1. Chronically ill or disabled non-spousal beneficiaries.
2. Non-spousal beneficiaries not more than 10 years younger than the account owner who died.
3. A minor child of the account owner (biological child or legally adopted) but only until that child reaches age 21. Once the beneficiary reaches 21, they have 10 years to deplete the account.

As mentioned above, the eligible beneficiaries are able to transfer the IRA to an inherited IRA and take RMD’s. The calculation of the RMD depends on whether or not the original owner was at RMD age. It is also worth noting that minor beneficiaries relinquish that right at age 21 and have to deplete the account within 10 years.

The non-eligible non-spousal beneficiaries have to deplete the account within 10 years. If the decedent did not reach RMD age, then the beneficiary is not required to take distributions during the 10-year period. However, the beneficiary should do some withdrawal planning. If he or she lets the money grow for the 10 years and cashes it all out in one lump sum in the 10^th year, that could result in a sizable tax bill. If the decedent was of RMD age, then the beneficiary has to take RMD’s each year and will still have to deplete the account within 10 years. Finally, if the account is a Roth IRA, the beneficiary does not have to take RMD’s regardless of the decedent’s age at death. It still has to be depleted within 10 years.

While this whole article focused on minimum amounts to be taken out of the accounts, it is worth noting that the beneficiary is not limited to the minimum amount. If a beneficiary needs more than the minimum, he or she may withdraw it as needed without penalty. It is imperative to be mindful of taxes. For example, a large withdrawal can move you into a higher tax bracket.

We mentioned it before, and we’ll mention it again. We would strongly recommend that you consult with a professional if you are in this situation. The person that left you this money worked hard for it. Take the time to make sure you maximize your benefit from it and minimize the taxes.

Disclosures: Changes in tax laws may occur at any time and could have a substantial impact upon each person’s situation. While our advisors are familiar with the provisions of the issues presented herein, we are not qualified to render advice on tax or legal matters. The information in this report has been obtained from sources that we believe to be reliable, but cannot be guaranteed. Citations: schwab.com and irs.gov. Additional disclosures can be found by visiting alliancewealthadvisors.com/legal-disclosures.