Understanding Your Inherited IRA: What You Need to Know

On July 18, 2024, the IRS issued long-awaited guidance on inherited IRAs, clarifying rules established by the SECURE Act of 2019. The key change was the implementation of the 10-year rule, which requires most non-spouse beneficiaries to withdraw the entire balance of an inherited IRA within 10 years of the original owner's death. This eliminates the previous "Stretch IRA" strategy that allowed beneficiaries to spread distributions over their lifetime.

If you've recently inherited an IRA, it's crucial to understand the latest IRS guidelines that affect how you manage these accounts. Here's a comprehensive look at five key points to consider:

1. 10-Year Rule Clarification:
   • General Rule: Non-Eligible Designated Beneficiaries (typically non-spouse beneficiaries) must empty inherited retirement accounts by the end of the 10th year after the account owner's death.
   • Annual Required Minimum Distribution (RMD) Requirement: If the account owner died on or after their Required Beginning Date (RBD), beneficiaries must take annual RMDs for years 1 through 9 before distributing any remaining funds by the end of Year 10.  However, the IRS has clarified that annual RMDs under the 10-Year Rule are not required to begin until 2025. No penalties or catch-up distributions are required for missed RMDs in 2021–2024. However, distributions must be taken starting in 2025, and the 10-year window is not being reset. Therefore, if a taxpayer received an inherited IRA in 2020, they must begin RMDs in 2025 AND the account must still be fully distributed by the end of 2030.
2. These new rules only apply to non-spouse beneficiaries: The 10-year distribution rule and annual RMD requirement primarily apply to non-spouse beneficiaries, such as children, siblings, or friends who inherit an IRA. In contrast, surviving spouses have the option to roll an inherited IRA into their own IRA.
3. Considerations Based on Age of the Deceased: The age of the IRA owner at the time of their death and whether they had started taking RMDs impact how distributions are handled by beneficiaries. If the original owner was over 73 years old and taking RMDs, beneficiaries must continue taking RMDs in amounts equal or greater to the amount that was being taken by the deceased IRA owner; in addition, they must follow the 10-year rule and have the entire IRA depleted within ten years. In contrast, beneficiaries who inherit an IRA from someone who passed away before their required beginning date are only required to withdraw the entire account balance by the end of the 10th year following the owner's death.
4. Tax Implications and Strategic Planning: Delaying distributions from an inherited IRA can lead to significant tax implications, especially if the IRA balance is substantial or if other income sources are high. Advisors recommend considering tax-efficient strategies such as spreading out distributions over the 10-year period, pairing distributions with charitable giving, or accelerating distributions during lower-income years.
5. Be Sure to Avoid Penalties: As we navigate the complexities of inherited IRAs under the new IRS guidelines, it's crucial for you to understand the requirement to take annual RMDs. Missing these distributions can result in a penalty of 25% of the total amount due.

Proactive planning has become more essential than ever. The 10-year rule and annual RMDs introduce complexities that require careful consideration to minimize tax implications and optimize your inherited IRA strategy.

As fiduciaries, it's our role to educate you on these rules and help you navigate them effectively. Whether it's crafting a distribution plan or exploring charitable giving options, strategic planning can make a significant difference in your financial outcomes.

If you have any questions or would like to discuss how these rules apply to your specific situation, please reach out for a complimentary, no-obligation consultation. We’re here to help you navigate this process smoothly.