Understanding How an Inherited IRA Works and Its Tax Implications

An inherited IRA can be a complex and intimidating topic, but understanding how it works can help you navigate its tax implications.

Inherited IRAs are subject to the five-year rule, which states that beneficiaries must take distributions within five years of the original account owner's death.

You'll want to consider the type of inherited IRA you have, as it affects the tax implications. If the original account owner was under 70 1/2, the beneficiary must take required minimum distributions (RMDs) by December 31 of the year after the account owner's death.

In some cases, beneficiaries may be able to stretch distributions over their lifetime, which can be a big advantage.

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An inherited IRA is a type of retirement account that is passed down to a beneficiary after the original account owner's death.

In most cases, an inherited IRA is created when the original account owner passes away, and the beneficiary inherits the account's assets.

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The beneficiary can choose to take the inherited IRA's assets in a lump sum, but they'll face a 20% withholding tax.

The beneficiary can also choose to take annual required minimum distributions (RMDs) from the inherited IRA, which are calculated based on the account's value and the beneficiary's life expectancy.

If the beneficiary is the spouse of the original account owner, they may be able to roll over the inherited IRA into their own IRA, which can provide more flexibility and control over the account.

The beneficiary may also be able to take a lump sum distribution, but this can trigger taxes and penalties if the account owner died before the required beginning date for RMDs.

The inherited IRA's assets are subject to the beneficiary's own tax obligations, which can include income tax and potential penalties for early withdrawal.

The beneficiary should consult with a tax professional or financial advisor to determine the best course of action for their specific situation.

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Inherited IRAs can be complex, especially when it comes to estate planning, financial planning, and tax planning. One wrong decision can lead to expensive consequences.

You can treat an inherited IRA as your own by naming yourself as the owner or rolling it over into another account. However, this may require taking required minimum distributions (RMDs) or fully withdrawing the money in 10 years.

If you're a surviving spouse, you can roll over the inherited IRA into your own account, but this may create additional choices and RMD requirements. You may have to take RMDs depending on your age or fully withdraw the money in 10 years.

The SECURE Act changed rules for distributing assets from an inherited IRA for non-spouses. Non-spouse beneficiaries who inherit IRA assets from account owners who passed away in 2020 or later must withdraw the full balance within 10 years.

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Here are some key takeaways about inherited IRAs:

Spouses have more flexibility in handling an inherited IRA, including the ability to roll over the IRA or a part of it into their own existing individual retirement accounts. This allows them to defer RMDs until they reach age 73.

Non-spouse beneficiaries may not treat an inherited IRA as their own and must set up a new inherited IRA account unless they want to distribute the assets immediately via a lump-sum payment. They must also withdraw all the funds from the inherited IRA within 10 years.

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Eligible designated beneficiaries have some unique withdrawal options. If you qualify to be treated as an eligible designated beneficiary, you may be able to withdraw the balance of your account by taking withdrawals based on your age, which for most beneficiaries is longer than 10 years.

To qualify, you must meet certain criteria, such as being a minor child of the original owner, someone who is not more than 10 years younger or older than the original owner, or you are chronically ill or disabled, or the spouse.

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You may also elect to follow the 10-year rule or follow the 10-year rule with RMD withdrawals if the original owner was already required to take RMDs from their account. Eligible designated beneficiaries must begin taking RMDs the year following the original owner's death.

Here are some key characteristics of eligible designated beneficiaries:

Being an eligible designated beneficiary can provide more flexibility in managing an inherited IRA, but it's essential to understand the specific rules and options available to you.

As a non-spouse beneficiary, you'll need to understand the rules that apply to you. You're considered a non-spouse beneficiary if you're the child, grandchild, sibling, or friend of the original IRA owner.

You'll have to set up a new inherited IRA account unless you choose to distribute the assets immediately via a lump-sum payment. Non-spouse beneficiaries can't treat the inherited IRA as their own, meaning they can't make additional contributions or transfer inherited funds into their existing IRA account.

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The SECURE Act significantly affects non-spouse inheritors of IRAs. Previously, these beneficiaries could handle RMDs like spousal heirs, recalculation based on their own life expectancy. This often decreased the annual withdrawal amount and tax due on traditional IRAs.

Non-spousal beneficiaries have several options for handling the inherited funds, including taking a lump-sum distribution, disclaiming the proceeds, transferring the funds into their own Inherited IRA, or taking RMDs based on their age.

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Withdrawing funds from an inherited IRA can be a bit complex, but understanding the rules can help you make informed decisions.

As a beneficiary, you can choose to take withdrawals over 10 years, which can result in a massive income tax bill unless the IRA is a Roth. This option is only available to eligible designated beneficiaries, which includes minors, chronically ill or disabled individuals, and those not more than 10 years younger than the original owner.

If you're not an eligible designated beneficiary, you'll need to follow the 10-year rule, which requires you to fully withdraw the account by the end of the year including the 10th anniversary of the original owner's passing.

Here are the key withdrawal options:

As a beneficiary, you're also responsible for taking care of any year-of-death required distributions, which can be a challenge if the original owner hadn't taken their RMD before passing away.

You have two main options as an inheritor of an IRA: take required minimum distributions (RMDs) over your life expectancy or the deceased account holder's, or take distributions over 10 years.

The 10-year rule can be a good option if you're a minor child, disabled or chronically ill, or not more than 10 years younger than the original owner. This rule requires you to liquidate the account by Dec. 31 of the year that is 10 years after the original owner's death.

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If you're a non-spousal beneficiary, you can take the inherited funds as a lump-sum distribution, which is taxable to the beneficiary, or transfer the funds into your own Inherited IRA.

It's essential to be aware of the year-of-death required distributions, especially if the original account owner hadn't taken their RMD in the year of death. As the beneficiary, you'll be responsible for taking out the minimum distribution if the original owner hadn't done so.

If you're considering taking RMDs, you'll need to follow the legal requirements while balancing the tax impact of withdrawals and the advantages of letting the money continue to grow over time.

Here are some specific scenarios to consider:

Remember, the options and rules for withdrawing funds from an inherited IRA depend on your relationship to the original owner, your age, and the date of their passing.

Do Beneficiaries Pay Taxes on Inherited IRAs?

Inheriting an IRA can be a complex process, and one of the key considerations is taxes. If you inherit a traditional IRA, any amount withdrawn is often subject to taxes.

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The tax implications depend on the type of IRA. If you inherit a Roth IRA, you're free of taxes. However, if you inherit a traditional IRA, any amount withdrawn is subject to ordinary income taxes.

Estates subject to the estate tax may also be allowed an income-tax deduction for the estate taxes paid on the IRA. For 2025, estates worth more than $13.99 million are subject to the estate tax, up from $13.61 million in 2024.

Here's a breakdown of the tax implications for beneficiaries:

Keep in mind that the tax implications can be significant, especially if you inherit a substantial account. It's essential to understand your options and consider consulting a financial advisor to ensure you make the best decision for your situation.

If you inherit a traditional IRA, you'll be subject to ordinary income taxes on any withdrawals. The good news is that you may be eligible for an income-tax deduction for estate taxes paid on the account, which can help offset your taxable income.

For estates subject to the estate tax, this deduction can be a significant benefit. For example, if the estate had to pay $350,000 in estate taxes on an IRA worth $1 million, you might be able to claim a $350,000 deduction against your taxable income.

You'll also want to consider your options for receiving benefits from the IRA, which depend on your relationship to the decedent. As a beneficiary, you have the option to receive a lump sum distribution of the funds or disclaim the inheritance.

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If you inherit a traditional IRA, any amount you withdraw is subject to ordinary income taxes.

You might be eligible for an income-tax deduction for the estate taxes paid on the IRA, which can offset against your taxable income. For example, you might have $1 million of income with a $350,000 deduction.

Estates worth more than $13.99 million in 2025 are subject to the estate tax, up from $13.61 million in 2024.

Receiving benefits can be a complex process, but it's essential to understand your options. As an IRA beneficiary, you have several choices for claiming your inheritance.

If you're a spouse, you have the most options available, allowing you to tailor your inheritance to your needs. You can elect to receive a lump sum distribution or leave the proceeds in the plan.

Natural non-spousal beneficiaries also have several options, including receiving a lump sum distribution or disclaiming the inheritance. This flexibility is a key consideration when deciding how to claim your benefits.

Non-natural beneficiaries, on the other hand, have the fewest options, which may limit their flexibility in claiming their inheritance.

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If the account owner passed away in 2019 or before, you have several withdrawal options. You can elect to move the assets into an inherited IRA in your name and fully withdraw the entire account balance by the end of the year following the 5-year anniversary of the original owner's passing.

You can also take required minimum distributions each year based on your life expectancy as shown on the IRS Single Life Expectancy Tables, reduced by a life expectancy factor of 1 in each successive year, beginning in the year after the original owner passed away.

Here are some key facts to keep in mind:

A designated beneficiary form is crucial to avoid problems with your estate plan. Make sure it's completed and on record with the custodian to avoid any issues.

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If the account owner passed away in 2020 or later, you'll need to follow specific rules when inheriting their IRA funds. Generally speaking, most non-spouse beneficiaries will be required to withdraw the balance of their account over 10 years, unless they qualify to be treated as an eligible designated beneficiary.

This means that if you're a non-spouse beneficiary, you'll need to pay out the inherited funds within a decade. It's worth noting that this rule applies to most non-spouse beneficiaries, but there are some exceptions, such as minor children, disabled or chronically-ill individuals, or beneficiaries no more than 10 years younger than the deceased.

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If you're a non-spouse beneficiary inheriting IRA funds from an account owner who passed away in 2020 or later, be aware that you'll need to follow the 10-year payout rule. This is a significant change from previous rules, which allowed for more flexible payout options.

Here are some key facts to keep in mind:

It's essential to understand these rules and how they apply to your specific situation. If you're unsure about your options or have questions, consider consulting with a financial advisor or tax professional for guidance.

If the account owner passed away before 2019, you have some specific options for handling the inherited assets. You can elect to move the assets into an inherited IRA in your name and fully withdraw the entire account balance by the end of the year following the 5-year anniversary of the original owner's passing.

You can also choose to move the assets into an inherited IRA and take required minimum distributions each year based on your life expectancy as shown on the IRS Single Life Expectancy Tables, reduced by a life expectancy factor of 1 in each successive year, beginning in the year after the original owner passed away.

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This schedule essentially means you'll empty the account faster than the original owner would have. If the original owner of your inherited assets passed away after they began taking required minimum distributions, you can elect to move the assets into an inherited IRA in your name and take required minimum distributions each year based on the longer of the original owner's life expectancy or your life expectancy.

Here's a summary of your options: