What to Do If You Receive the Proceeds of an IRA as a Beneficiary?

If you receive the proceeds of an Individual Retirement Account as a beneficiary, you must follow different rules depending on whether or not you were the spouse of the deceased. The IRS grants spouses preferential treatment in terms of beneficiary IRA distributions, but you can still enjoy some of the tax advantages of the decedent's IRA even as a non-spousal beneficiary. In either case, you must follow IRS regulations to avoid additional taxes and penalties.

Spousal IRA

The main privilege granted to you as a spousal beneficiary of an IRA is the ability to treat the decedent's IRA as your own. At the time of distribution, you can either rollover the decedent's IRA into your already-existing IRA, or you can simply re-title the name of the decedent's IRA in your name. From that point on, for legal purposes the IRA exists as if it has always been your own. You can make contributions to the account, name your own beneficiary, rollover the assets to another account and take required minimum distributions according to your own life expectancy, rather than that of the decedent.

Non-Spousal Beneficiary

If you are not the spouse of the decedent, the IRS does not permit you to treat the account as your own. Rather, you must roll the proceeds into a beneficiary IRA account that includes the name of the decedent and lists you as the beneficiary. Unlike with a spousal IRA, you cannot rollover the assets into another account, name your own beneficiary or make your own contributions.

Cash Distributions

Whether or not you are a spousal beneficiary, you can choose to receive the IRA distribution in cash rather than depositing it into an IRA. As all traditional IRA distributions are taxable at ordinary income rates, you will have to pay income tax on any cash distribution you receive.

Mandatory Distributions

With all IRAs, the IRS requires minimum annual distributions from the account after you reach the age of 70 1/2. If you inherit an IRA as a spouse, these mandatory distributions are based on your life expectancy. However, if you are a non-spousal beneficiary, you must take distributions based on whether or not the decedent had already begun taking his own mandatory distributions. If the decedent had already begun taking distributions, you must continue to take distributions based on the longer of your life expectancy or that of the decedent. If the owner had not yet begun distributions, you must base your distributions on your life expectancy only.

Penalties

If you do not take your required distributions as a beneficiary, you must pay a 50 percent penalty of the amount you should have withdrawn. Additionally, if you withdraw from the IRA before you reach the age of 59 1/2, you must pay a 10 percent early withdrawal penalty. This penalty is waived for required beneficiary distributions.

References

• IRS Publication 590: What if You Inherit an IRA?
• Forbes: 5 Rules for Inherited IRAs
• Bankrate.com: You - Not IRS - Should Benefit From Inherited IRA
• GoodFinancialCents.com: 3 Things You Must Know About Inheriting an IRA
• Fidelity Investments: Inheriting an IRA or Retirement Plan Assets From a Non-Spouse
• IRS Publication 590: IRA Beneficiaries