BALTIMORE BEACON — FEBRUARY 2013
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How to pass IRAs down to beneficiaries By Elliot Raphaelson Most individuals who have Individual Retirement Accounts (IRAs) understand the primary advantages of these accounts — income tax deferral and the associated investment growth over long periods of time. However, owners of these accounts often fail to consider that these advantages can also work in the favor of beneficiaries who inherit the accounts after they die. Even those who appreciate the benefits often fail to follow the rules exactly and end up losing out. IRS regulations on inheriting retirement accounts can be complex, and it is easy for people to make mistakes when they name beneficiaries. There are pitfalls for beneficiaries as well, and mistakes can result in thousands of dollars in unnecessary penalties and lost investment opportunity.
Do paperwork properly Retirement expert Ed Slott argues that properly filling out your retirement account beneficiary form is the “single most important document in your estate plan because it guarantees that the person you name as beneficiary ... will indeed get that asset when you are gone.” A filled out beneficiary form will take precedence over provisions in your will. If your personal situation changes — say, because of divorce or death of a spouse — you must make sure you make the appropriate changes to the form. It’s key to get this right, because the retirement account is the largest asset many individuals own. Slott’s retirement planning books are an excellent resource to help you make the right decisions. Your Complete Retirement Planning Road Map (Ballantine Books, 2007) is particularly useful on this subject. Don’t assume that your attorney and/or
your financial advisor are experts regarding retirement accounts, especially when it comes to inherited accounts. Do your homework, and get informed professional assistance if you need it.
Options for a spouse Naming a spouse as a beneficiary is the most desirable option, as it provides the best opportunity for growth and longevity of the funds in the account. A spouse beneficiary can treat the inherited IRA as his or her own, and have the trustee change the name on the account. A second option is for the beneficiary to roll the account over to a new IRA in his or her name. Both alternatives are equally advantageous. A third option is to retitle the account as an “inherited IRA.” If the beneficiary is under the age of 59 1/2, there is an advantage to this option. The beneficiary can withdraw funds immediately without paying the 10 percent penalty that normally applies to those who take early IRA distributions. The beneficiary will have to pay ordinary income taxes on any withdrawals. If a spouse beneficiary selects the inherited IRA option, at age 59 1/2 he or she should retitle the IRA in his or her name. The beneficiary will then have the flexibility, between ages 59 1/2 and 70 1/2, to withdraw any amount he or she wishes and retain tax deferral. After age 70 1/2, that person will have to make mandatory withdrawals based on the IRS’ life expectancy tables.
Preserving benefits for heirs If you have inherited an IRA, fill out the retirement account beneficiary form so your heirs, too, can take advantage of the “stretching” options. Non-spouse beneficiaries cannot roll over
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a retirement account into their own names. They can, however — and they should — retitle the account as an inherited IRA. How you, as a non-spouse beneficiary, are required to make withdrawals from an inherited IRA depends on whether the account’s original owner had begun withdrawing. For example, let’s suppose you inherited an IRA from your mother, who had initiated withdrawals based on her life expectancy. If you retitle the account as an inherited IRA, you can withdraw funds on
the same basis as your mother had, retaining the tax deferral. Withdrawals are taxed at ordinary income tax rates. On the other hand, let’s say that at the point of her death, your mother had not initiated mandatory withdrawals. You will be required to make minimum withdrawals based on your life expectancy. You can always withdraw more than the minimum. Again, all withdrawals are taxable. See IRAs, page 18