Inherited IRA Beneficiary Rules
The beneficiary of an IRA can be a spouse, children, an estate or any entity designated by the original IRA owner. A beneficiary who inherits the IRA from a deceased spouse has more options than other types of beneficiaries. With careful planning, the original owner of the IRA can provide flexible options for beneficiaries to maximize distribution rules.
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Transfers
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To avoid tax ramifications, a beneficiary should transfer the funds from an inherited IRA to another IRA specifically via a trustee-to-trustee transfer. If more than one beneficiary inherits the IRA, the IRA custodian should split the account into separate inherited IRA accounts. The new IRA accounts for a single beneficiary or for multiple beneficiaries must be retitled to reflect the name of the original owner and specify that the account was inherited. If the spouse of the original owner is the beneficiary, retitling is not required.
Distributions
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Beneficiaries who inherit an IRA must begin taking withdrawals from the account by December 31 of the year after they inherited the IRA. This rule does not apply to the spouse of the deceased. The total amount in the account must be distributed to the beneficiaries within five years of the original owner's death or over the life of the beneficiary. Beneficiaries can extend tax-deferred or tax-free growth if the original owner of the account specified a primary and an alternate beneficiary. The primary beneficiary can disclaim the IRA and turn it over to a younger beneficiary.
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Spouse Beneficiary
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A spouse can treat an inherited IRA as their own if they designate themselves as the account owner. A spouse can often roll over a traditional IRA into another traditional IRA, an employer plan, a tax-sheltered annuity plan, a qualified employee annuity plan or a deferred state or local government compensation plan. The spouse may continue to make contributions to the account. Spouse beneficiaries have a third option of treating themselves as the beneficiary rather than treating the account as their own.
Taxes
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Beneficiaries who inherit an IRA must include any taxable distributions from the account in their gross taxable income for the year. Certain federal estate tax deductions may apply to qualified distributions from a traditional IRA. Beneficiaries may deduct the estate tax paid on the amount of the distribution that the descendent claimed as income for that tax year.
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