Changes to Inherited IRA’s – The 10 Year Rule

In 2019, Congress passed the SECURE Act. It has since been amended by the SECURE Act 2.0 in 2022. These acts changed the age at which you need to start taking Required Minimum Distributions (RMD) from your IRA/401k from 70 ½ to 73. This allows your money to continue to grow pre-tax for an extra 2 ½ years before you are required to start taking distributions. In the year you turn 73, your RMD is determined based on your life expectancy. You are required to pay your RMD by April 1st of the year after you turn 73. If you do wait until the year following your 73rd birthday, you will have to take a second RMD that same year, so it is best to take your first RMD during the calendar year that you turn 73.

Another change made by the SECURE Act affects your heirs. For account holders who die after January 1, 2020, if your heir is more than 10 years younger than you, when they inherit your IRA/401k, they are required to withdraw the entire balance of the account within 10 years (and pay taxes at earned income tax rates). The exceptions to this rule are: a surviving spouse, a disabled or chronically ill person, a child who hasn’t reached the age of majority (after which the 10 year rule applies), or a person not more than 10 years younger than the account owner. These exceptions are allowed to take RMDs based on their life expectancy, instead of being required to withdraw the entire balance within 10 years.

The biggest issue for inheritors is that the distributions from the inherited IRA/401k will be added to their existing income, moving them into higher tax brackets, for the 10 years of distributions. In many cases, this means that the inherited IRA will be taxed at much higher rates than the decedent would have been taxed. Therefore, depending on the situation, it may make more sense for the original owner to take higher distributions from their IRA/401k’s prior to their death. As in all tax matters, consult with your tax advisor to determine the best strategy.

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