Inheriting retirement plan funds

Published 3:49 pm Friday, July 24, 2009

When you inherit funds held in an IRA or 401(k), profit sharing, 403(a), 403(b) or 457(e) retirement plan, how you are permitted to handle the money depends on your relationship with the deceased.

If you’re a surviving spouse, you can, if you choose, roll the funds directly into your own accounts and treat the money as yours. A direct trustee-to-trustee rollover—rather than accepting a check and within 60 days depositing the proceeds into your own IRA—is usually recommended.

When you inherit from a spouse and handle the funds in this manner, you’ll pay no penalty even if you’re under age 59 1/2—unless you take a distribution from the funds—and you won’t have to begin taking required minimum distributions (RMDs) until you reach 70 1/2, no matter the age of the deceased.

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As a surviving spouse, you can also treat an inherited Roth IRA precisely as you would your own Roth account. You’re not required to take a distribution, and if and when you do make withdrawals, the funds will be free of income tax, as long as the account has been in existence for five years and you’re over age 59 1/2.

More spousal choices

You have other choices, such as transferring inherited assets from your spouse’s IRA into an inherited IRA. This could be advantageous if you are significantly older than your spouse, as this would possibly allow you to delay beginning to take RMDs until the year your spouse would have turned 70 1/2.

If you decide you don’t need the assets, you can disclaim your inheritance, an act that would pass the funds to the next eligible beneficiary. If he or she is younger, and takes RMDs based on his or her life expectancy, the result is smaller mandatory withdrawals, leaving more funds in the account with the potential for long-term growth.

RMD rule for 2009

Just for this year, as you may be aware, the mandate that everyone age 70 1/2 or over take an RMD has been suspended for those who would normally have been required to take one. Bear in mind, the RMD requirement returns in 2010.

Not having to withdraw funds for 2009 is possibly an advantage for those who don’t need the money, because leaving it in tax-advantaged funds allows the potential for more account growth. Of course, if you find you need the money, you can make withdrawals at any time.

Non-spousal rules

The rules are very different for nonspousal beneficiaries of tax-qualified plans. If you’re such a beneficiary, you may set up a direct trustee-to-trustee transfer of funds into a carefully titled inherited IRA, but you cannot roll inherited monies into your own IRA.

In addition to individuals, retirement fund inheritances may also go to trusts, charitable institutions or estates, but differing rules apply in every case.

If you have questions, don’t hesitate to give me a call.