New Distribution and Taxation Rules for Inherited Retirement Accounts
New Distribution and Taxation Rules for Inherited Retirement Accounts
by Harley K. Look, Jr.
Under the SECURE Act of 2019, effective for all retirement accounts inherited after December 31, 2019, the IRA stretch has been repealed, with few very limited exceptions, to raise an estimated $15.7 billion in tax revenue over the next decade. A spouse named as the beneficiary of a retirement account still receives the tax benefits of an IRA spousal rollover, but for nonspousal beneficiaries, the IRA stretch is gone, so they are no longer allowed to take required minimum distributions over their life expectancies to minimize their income taxes or to allow their inherited Roth IRAs to continue to grow tax-free. Rather, the general rule is that for any beneficiary other than a spouse, all retirement accounts, including any 401(k), traditional IRA and Roth IRA, must be distributed within ten years after the account holder passes away.
For taxable accounts, distribution will trigger income taxes, and if distributed all at once after ten years, will result in a large tax bill. Many trusts have IRA stretch language to distribute only the required minimum distributions to help protect beneficiaries from commingling or spending their inherited retirement accounts. There are no more annual required minimum distributions for most beneficiaries, so a beneficiary could receive nothing for ten years, then a lump sum in the tenth year.
Beyond naming a spouse, the very limited exceptions of eligible designated beneficiaries who may still take required minimum distributions are chronically ill or disabled beneficiaries, those who are no more than ten years younger than you, and your minor children, but not other beneficiaries such as grandchildren, even if they are minors. When any of these beneficiaries are no longer eligible designated beneficiaries, as for example when a minor child reaches the age of 18, the remaining balance of the retirement account must be distributed by age 28.
Although a spouse is still eligible for the benefit of a spousal rollover, the spouse can later change the secondary beneficiary to a new spouse or other beneficiaries. Similarly, although most other beneficiaries, including trusts for their benefit, must pay taxes within ten years, they can then commingle or spend the remaining net after-tax retirement funds. Please keep in mind that all benefits payable to a named beneficiary pass outside of any trust or will directly to the named beneficiary.
You may therefore want to consider naming your trust as the primary or secondary beneficiary to control the net funds after required minimum distributions to a spouse and the net funds after income taxes for other beneficiaries. It will be imperative for you to review and potentially amend your trust to help protect your retirement accounts.