Rookie estate planning question: Tax deferred IRA accounts

[JP.mpls]

A basic estate planning question regarding inherited 401K/IRA accounts:

When someone inherits money that is in a tax deferred 401K/IRA account, can that money stay tax deferred? If not, does the person inheriting that money count the full amount of the inheritance as income in the year that the inheritance was received? Is there any way for them to spread that income out over a number of years?
Note: I'm assuming there will be no taxation of inherited Roth accounts.




Vanguard related question regarding 401K/IRA beneficiary documents:

I've been told that the beneficiary document for all 401K and IRA accounts determines who will inherit the money in the account when the owner dies. This document overrides whatever is defined in a person's will.

Is there a way to look at the beneficiary information for your IRA account on line? I haven't found this on their website. I know that the beneficiary document for my 401K is just held by my HR department. I would feel much more confident in this process if this important document was available to look at on the Vanguard website.

Thanks,

JP

 

[Finance Dave]

For the Vanguard part....

Go to My Accounts, then Account Maintenance, and you'll see a beneficiaries link.

 

[GrayHare]

Under current tax law, those who inherit an IRA can choose to spread income from it over their life. Tax rules require such a beneficiary withdraw at least a certain minimum amount annually. A 401k is not as simple because the plan can specify/limit the beneficiary's options.

 

[Brat]

Here is an excerpt of a letter I recently sent to my children and is based on my understanding of IRA rules, no 401K in play:

Now on to consideration of estate management issues. The survivor (DH or I) should consider splitting each IRA into separate accounts and naming each of you beneficiaries. For example:
Traditional IRA 1 - Beneficiary child 1 naming 1a & 1b as contingent beneficiaries;
Traditional IRA 2 - Beneficiary child 2 naming 2a and 2b as contingent beneficiaries;
Roth IRA 1 - Beneficiary child 1 naming 1a & 1b as contingent beneficiaries;
Roth IRA 2 - Beneficiary child 2 naming 2a and 2b as contingent beneficiaries

This may seem nuts but what it enables is that when the last of us passes you can decide to renounce all or part of your inheritance for the benefit of your children, it is my understanding that you can only renounce to a named beneficiary. Money withdrawn from a traditional IRA is taxable, your children’s marginal tax rate (assuming they are not still dependents on your tax return) will be lower than yours. Also an inherited IRA is not sheltered in case of bankruptcy or litigation. I recommend depleting each inherited IRA using the annuity methodology based on the inheritor’s age commencing within the first year after our passing. If you have renounced the an IRA for the benefit of your children the account can to grow tax free longer.

There may come a time that you wish your interest in our IRA accounts to go directly to your children. That can be done.

 

[Luck_Club]

A basic estate planning question regarding inherited 401K/IRA accounts:

When someone inherits money that is in a tax deferred 401K/IRA account, can that money stay tax deferred? If not, does the person inheriting that money count the full amount of the inheritance as income in the year that the inheritance was received? Is there any way for them to spread that income out over a number of years?
Note: I'm assuming there will be no taxation of inherited Roth accounts.

Addressing the bold line of questioning, you may find this tool very helpful in determining how to handle. The funds are definitely counted as income as they come out of the account. You will be subject to MRD's so make sure that the brokerage doesn't screw that up.

https://www.schwab.com/public/schwa...standing_iras/ira_calculators/beneficiary_rmd

 

[MissMolly]

Inherited money, whether it is in taxable accounts, tax deferred accounts, cash, etc is never considered to be income for Federal tax purposes at the time it is inherited. Any funds in an inherited IRA or 401K still continue to grow tax free as long as they remain in the account. However, as stated above, any funds taken out of the accounts subject to RMD would then become taxable and be counted as income. Any subsequent earnings on any non-tax deferred accounts would also be considered income.

 

[Brat]

"Any subsequent earnings on any non-tax deferred accounts would also be considered income."

I don't think that is true for a Roth. If I am wrong please post a link.

 

[Luck_Club]

Inherited money, whether it is in taxable accounts, tax deferred accounts, cash, etc is never considered to be income for Federal tax purposes at the time it is inherited. Any funds in an inherited IRA or 401K still continue to grow tax free as long as they remain in the account. However, as stated above, any funds taken out of the accounts subject to RMD would then become taxable and be counted as income. Any subsequent earnings on any non-tax deferred accounts would also be considered income.

I'm under the impression that the money in the 401K's is taxable even though it is inherited, but only as it is withdrawn from the 401K account. Otherwise everyone would just pull it out day 1 with no tax due, wouldn't they?

 

[MissMolly]

"Any subsequent earnings on any non-tax deferred accounts would also be considered income."

I don't think that is true for a Roth. If I am wrong please post a link.

True. I should have specified taxable accounts.

I'm under the impression that the money in the 401K's is taxable even though it is inherited, but only as it is withdrawn from the 401K account. Otherwise everyone would just pull it out day 1 with no tax due, wouldn't they?

It is not taxable until withdrawn. Whether under RMD rules or just withdrawing, it is taxable only when withdrawn. So, I'm not sure what your question is. I said it was taxable when it was withdrawn.

 

[Corporateburnout]

For an inherited IRA the distribution must be taking by a non spouse beneficiary one year after the death of the account holder if he or she passes after the age of 70.5 otherwise a five year option applies. A spouse can rollover the IRA into his/her account.

The following link has everything you need to know.

https://www.fidelity.com/building-savings/learn-about-iras/inherited-ira-rmd

Keep in mind that Congress has been debating the death of this stretch IRA for quite a while but no laws to eliminate it have been passed yet. Stay tuned.....

 

[JP.mpls]

Finance Dave,
Thanks. I found the beneficiary page on the Vanguard website. I think I was looking for this while on the page for my 401K account. It isn't on the 401K account page.


Another related question:
This beneficiary page allows me to define the secondary beneficiaries by percentages. Fairly simple and clear. If I set a percentage of the account to go to a sibling, and that sibling is dead when these funds get distributed, will those funds go to that siblings estate (wife and/or children), or do they get put back into the pool of money from our tax deferred accounts, and get divided up by the remaining beneficiaries as defined?


This starts getting messy if you don't have children to just pass it on to.




JP

 

[Luck_Club]

Inherited money, whether it is in taxable accounts, tax deferred accounts, cash, etc is never considered to be income for Federal tax purposes at the time it is inherited. Any funds in an inherited IRA or 401K still continue to grow tax free as long as they remain in the account. However, as stated above, any funds taken out of the accounts subject to RMD would then become taxable and be counted as income. Any subsequent earnings on any non-tax deferred accounts would also be considered income.

The bold text lead to my confusion.

 

[gwraigty]

If I set a percentage of the account to go to a sibling, and that sibling is dead when these funds get distributed, will those funds go to that siblings estate (wife and/or children), or do they get put back into the pool of money from our tax deferred accounts, and get divided up by the remaining beneficiaries as defined?
JP

From what I could find in a quick Google search ("401k beneficiary dies"), the money gets divided up among the remaining beneficiaries. A deceased beneficiary's share wouldn't go to their estate.

 

[Brat]

It is my understanding that if a beneficiary renounces an inherited IRA their share goes to the other named beneficiaries. I do not think they can renounce their share to their children. If a beneficiary has died and you specify 'per stirpes' then the deceased's share will go to their children in equal amounts.

In my situation one of my children is very well situated. Were I her I would renounce to the benefit of my children. The other one is doing fine, I have no idea what that he will choose to do. That is why it would be wise to separate their residual interests in our IRAs.

 

[OldShooter]

If you're talking about anything but trivial money, SGOTI is not the right source for information. Talk to a good trusts & estates attorney or a clued-in CPA.

 

[Animorph]

This might be in some of the links, but this is the basic stuff I had to know to set up inherited (non-spousal) IRA RMD's for my mom:

(IRS rules copied from whatever publication # it was)

"Distribute using Table I [higher RMD rates than normal!]

Use younger of 1) beneficiary’s age or 2) owner’s age at birthday in year of death
Determine beneficiary’s age at year-end following year of owner’s death
Use oldest age of multiple beneficiaries
Reduce beginning life expectancy by 1 for each subsequent year
Can take owner’s RMD for year of death"

That reduce by one for the RMD factor is also drains the IRA much faster than normal RMD's. It will also zero out the account eventually.

Or, you can take it in 5 years. We didn't do that, so I'm not sure of the mechanics.

 

[Brat]

If you're talking about anything but trivial money, SGOTI is not the right source for information. Talk to a good trusts & estates attorney or a clued-in CPA.

One of the beneficiaries is a clued-in CPA.

The MRD rules for inherited IRAs may change before we are gone but at least they have the opportunity to use the rules then in place to their individual advantage.

 

[Finance Dave]

Finance Dave,
Thanks. I found the beneficiary page on the Vanguard website. I think I was looking for this while on the page for my 401K account. It isn't on the 401K account page.


Another related question:
This beneficiary page allows me to define the secondary beneficiaries by percentages. Fairly simple and clear. If I set a percentage of the account to go to a sibling, and that sibling is dead when these funds get distributed, will those funds go to that siblings estate (wife and/or children), or do they get put back into the pool of money from our tax deferred accounts, and get divided up by the remaining beneficiaries as defined?


This starts getting messy if you don't have children to just pass it on to.




JP

I have no idea lol, that question is out of my league. Sorry. I'd just call Vanguard and ask them.

 

[Dancfo]

Finance Dave,
Thanks. I found the beneficiary page on the Vanguard website. I think I was looking for this while on the page for my 401K account. It isn't on the 401K account page.


Another related question:
This beneficiary page allows me to define the secondary beneficiaries by percentages. Fairly simple and clear. If I set a percentage of the account to go to a sibling, and that sibling is dead when these funds get distributed, will those funds go to that siblings estate (wife and/or children), or do they get put back into the pool of money from our tax deferred accounts, and get divided up by the remaining beneficiaries as defined?

This starts getting messy if you don't have children to just pass it on to.

JP

The answer to "another related question" may depend on the IRA document that is being used. You should read the document (and ask the custodian/trustee) to see what happens. It may be distributed per stirpes to their children (would not include spouse), per capita, or somewhere else. Point being is this is usually a document issue and not "law" so it is not consistent.