Thanks for the IRA Assets…Now What?

August 18, 2021
By Brian Mackin, CFP®

In our last newsletter, Kristan Anderson delved into some of the complexities and planning opportunities surrounding required minimum distributions (RMDs) from retirement accounts. Around the time her article was published, the Internal Revenue Service (IRS) released updated guidance on inherited IRAs and inherited Roth IRAs, in an effort to clear up confusion…which the IRS caused…as to whether annual RMDs are required for these account types. 

As a refresher, which my colleague Cheryl Langston highlighted in her December 2019 article, the Setting Every Community Up for Retirement Enhancement (SECURE) Act eliminated the ability for beneficiaries of retirement assets to stretch RMDs over their lifetimes. Non-spouse beneficiaries who inherit retirement assets after 2019 must fully distribute those assets within 10 years of the original IRA owner’s death. Exceptions apply for those who are disabled, chronically ill, are minor children, or not more than 10 years younger than the original IRA owner. These groups retain the ability to stretch RMDs over their life expectancy. 

With the passage of the Coronavirus Aid, Relief, and Economic Security (CARES) Act last year, RMDs from retirement accounts were suspended in 2020, so 2021 is the first year where SECURE Act rules come into play. As opposed to the widely-held belief last year that inherited IRAs could be left to grow tax-deferred for 10 years and then distributed in a lump sum, earlier this year the IRS was interpreting SECURE Act payout rules in an unexpected way – to require annual distributions from these accounts. However, in a revision to Publication 590-B1 on May 13, 2021, the IRS stated: 

“For example, if the owner died in 2020, the beneficiary would have to fully distribute the plan by December 31, 2030. The beneficiary is allowed, but not required, to take distributions prior to that date.”

So now we have clarification on what’s possible. Beneficiaries can elect to receive distributions from Inherited IRAs of any amount, or none, in years 1-9, so long as the account balance at the end of the tenth year is $0. But for those who have inherited IRA assets over the past 18 months, or expect to in the future, the obvious question is: what is the best course of action in my situation? Determining the optimal approach depends on a variety of factors, including, without limitation, the type of account, how the account is invested, the beneficiary’s overall tax situation, and philanthropic goals.

In the case of inherited Roth IRAs, assuming distributions are not needed to meet cash flow needs, it likely makes the most sense to forego distributions, position the investments aggressively within the confines of your risk tolerance, and let the account grow until the tenth year, since there will be no taxes due on the distribution.

For non-Roth inherited IRAs, while it is true that leaving the account un-tapped and growing for a decade might be a sensible investment decision, doing so could result in a hefty tax bill in the final year, since the lump sum distribution would be added to other income and taxed at ordinary rates (which may be on the rise in future years). A more tax-efficient approach would be to review your income situation annually to determine how much, if any, should be taken out of the inherited IRA in that year.

If your income is down, take more out of the inherited IRA. If for whatever reason your income is elevated, take out less, or none. Or you could distribute an amount that would bring you to the top of your current marginal tax bracket, similar to the strategy behind partial Roth conversions. Additionally, if you are charitably inclined and over the age of 70½, another option is doing qualified charitable distributions (QCDs) from the inherited IRA to a qualified charity, which would avoid having to recognize the distribution as taxable income.

If you have questions or would like to discuss the specifics of your situation, please contact your relationship manager or a member of our financial planning team.

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1Source: www.irs.gov/publications/p590b

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