How Does an Estate Treat an IRA?

By Mike Keenan

An IRA is a unique creature when it comes to an estate inheriting the IRA or having to pass it along to beneficiaries. If the IRA names a beneficiary, the estate can simply pass along ownership of the account. However, if the decedent didn't name a beneficiary, the tax rules are more complicated.

Minimum Distribution

When a decedent dies, the estate is responsible for making sure the decedent's last required minimum distribution is taken, if needed. If the decedent would have turned 70½ years old or older in the year of death, the decedent is required to take a required minimum distribution for the year. If the taxpayer did not do it by the end of the year, the estate must take it on behalf of the decedent.

Estate as the Beneficiary

If the IRA does not list a beneficiary, the estate is treated as the beneficiary. As the beneficiary, the estate has its own set of required distributions. If the decedent died before having to take required minimum distributions, the estate must distribute the entire amount from the IRA by the end of the fifth year after the decedent's death, but no distributions are required before then. If the decedent was 70½ years old or older, the estate must take annual distributions equal to the IRA value divided by the decedent's life expectancy as determined by his age in the year of death minus one for each year after the death.

Protect your loved ones. Start My Estate Plan

Tax Reporting

When the estate receives distributions from the IRA, the distributions are included in the estate's income for the year to the same extent that the distributions would have been included in the decedent's income. Generally, the entire amount distributed from the traditional IRA is taxable, but if the decedent had made nondeductible contributions, a portion of the distribution equal to the portion of nondeductible contributions in the IRA is excluded from income. For example, if the basis in the IRA is 35 percent of the total value at the time of the distribution, 35 percent of the distribution will be tax-free. If the estate then distributes the IRA withdrawals to the heirs, the estate can deduct the distributions from its taxable income and the beneficiaries must then include it in their income.

Penalties

Failing to take the required distribution results in a 50 percent penalty. For example, if the estate was supposed to withdraw $30,000 by the end of the year but only took out $5,000, the estate would owe a $12,500 penalty because it failed to take out $25,000. If the estate's failure to take a required distribution is due to a good faith error, such as an error by the financial institution, the estate can request a waiver of the penalty if it is taking steps to correct, or has already corrected, the error.

Protect your loved ones. Start My Estate Plan
When a Child Inherits an IRA

References

Related articles

Inherited IRA Beneficiary Management Guide

When someone dies with money still in an IRA, the money passes to the named beneficiary of the account. The Internal Revenue Service has strict rules regarding distributions to beneficiaries. Knowing your options for how to treat your inherited IRA will help with tax planning and avoiding unnecessary penalties.

When Must a Beneficiary of a Decedent's IRA Take Withdrawals?

Just because your grandpa left his IRA to you doesn't mean that Uncle Sam doesn't care what you do with it. The IRS sets specific deadlines you have to meet for taking distributions from your inherited IRA. Making sure you take the required withdrawals helps you enjoy the benefits of the distributions rather than turning over excessive amounts to the IRS.

Can an IRA Be Cashed Out During a Divorce?

There are a lot of reasons why you might want to lay your hands on some cash when you're going through a divorce. Unfortunately, divorce isn't on the list of circumstances under which the Internal Revenue Service will waive penalties if you cash out your IRA early. Cashing out a retirement asset can complicate your divorce proceedings as well.

LegalZoom. Legal help is here. Start Here. Wills. Trusts. Attorney help.

Related articles

Inheritance of a Traditional or Roth IRA

If you’ve inherited an individual retirement arrangement, or IRA, it comes with restrictions on when the money must be ...

How to File Form 1041 for Estate Tax

The Form 1041 is used by estates and trusts to pay income tax on any income received by the estate. This is different ...

How to Retitle an IRA When a Successor Beneficiary Inherits the IRA

If you inherit an IRA from your spouse, you can roll it over to a new IRA in your name or merge it with your own ...

Can You Make Your Church a Beneficiary of Your IRA?

If you've planned well enough that you'll have money remaining in your individual retirement arrangement when you pass, ...

Browse by category
Ready to Begin? GET STARTED