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5 Strategies for Inherited IRAs

RMDs, tax strategies, timing withdrawals, and more nuts-and-bolts IRA owners and designated beneficiaries should know.

Published by Motley Fool Wealth Management Tue, Oct 31, 2023

read time 10 min read

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There are two main options available to all designated beneficiaries when it comes to withdrawing money from an IRA that you inherit.1

First, you can choose to take a lump sum distribution, withdrawing the entire account balance at the same time. However, keep in mind that the withdrawal will be treated as taxable income, so it might not be a smart idea to take the money all at once.

Second, you have the option to withdraw the money over a period of as long as 10 years. The account will need to be completely depleted by the 10th year following the year in which the original account owner died. This is generally preferable to a lump sum distribution, as it allows you to spread out the tax burden over a longer period of time and may prevent you from facing higher marginal tax rates due to higher income.

If you choose the second scenario, you don’t need to take any minimum annual distributions unless the original owner had already started taking RMDs from the account. For example, if you inherit a traditional IRA from your parent who was 80 years old (well into the RMD time frame), you’ll have to take a minimum distribution according to the IRS life expectancy tables in years one through nine—more on how that works later. On the other hand, if you inherited an IRA from a parent who was 70 years old and not yet required to take RMDs, you can withdraw the money at any pace you’d like, as long as it’s depleted by the end of year 10.

Inheriting an IRA from a spouse

If you inherit an IRA from your spouse, you have a couple of additional options. To be clear, you can still use either of the two methods described in the previous section, but there are two methods that are only available to spouses.

Treat the IRA like your own


First, you can simply treat the inherited IRA as if it were your own. You can transfer the assets into you own IRA, or you can open a new one. This option is only available to spouses.

Because you can treat it as your own IRA, if you choose to do so, the same IRA withdrawal rules apply to you that apply to anyone who has saved money in an IRA. You must be at least 59 ½ years old to take a penalty-free distribution, and you have to start withdrawing money according to the required minimum distribution (RMD) rules if the account is a traditional IRA or other pre-tax account. If your 72nd birthday is in 2023 or later, you must start taking RMDs in the year you turn 73.2

If you choose to treat an inherited Roth IRA from a spouse as your own, as of 2024 you won’t be required to take required minimum distributions, and qualifying withdrawals are tax-free. And just like if the Roth IRA was yours to begin with, you can withdraw any original contributions to the account (but not earnings) regardless of your age.

Use the life expectancy method and start withdrawals right away


Alternatively, spouses have the ability to start withdrawals from the IRA immediately, regardless of age, if they use the life expectancy method. Distributions must be done according to the IRS’ single life expectancy tables.

As an example, let’s say that you inherit an IRA from your spouse and you turn 55 years old in 2023. According to the IRS life expectancy table3, you have a life expectancy factor of 31.6 years. You would divide the account balance as of Dec. 31 of the previous year by this factor. So, if the account was worth $500,000 on that date, you would withdraw $15,823 this year. Next year, you’ll recalculate based on the life expectancy factor for a 56-year-old.

This method is also available to certain non-spouse beneficiaries, specifically:

  • Minor children of the original IRA owner.
  • Beneficiaries who are chronically ill or permanently disabled.
  • Beneficiaries no more than 10 years younger than the original IRA owner.

Inherited IRA strategies

If you inherit an IRA, or expect that you will in the future, it’s a good idea to start thinking about the most efficient way to handle it. So, here are some strategies and tips to keep in mind.

Drag it out as long as you can

The first general rule of thumb many follow is that you choose the longest withdrawal timetable you are legally allowed to. For example, a non-spouse beneficiary can take as long as 10 years to deplete the account or take a lump sum. A spouse can treat it as their own IRA, use the life expectancy method, use the 10-year rule, or a lump sum.

Obviously, there are some cases where it may make sense to take a lump sum withdrawal or to deplete an inherited IRA faster than you’re required to. For example, if you inherit a $30,000 IRA and have roughly that much in high-interest credit card debt, it could be worth the tax hit to withdraw the money and pay it off.

But use some smart tax planning

So, the general rule of thumb (as discussed above) that many follow is to use the longest time window available to you—which generally means the 10-year withdrawal window or the life expectancy method. But that doesn’t necessarily mean you should wait as long as possible to take money out in all situations.

This could be especially true for non-spouses who are limited to the 10-year withdrawal time frame. In other words, if you are a non-spouse beneficiary and are not required to take RMDs, this generally means that you can withdraw the money at any time before the end of the 10th year following the death of the owner. But that doesn’t mean that you should necessarily wait until year 10 to withdraw all of the money.

As a simplified example, let’s say that you’re married and have a household taxable income of $150,000. This puts you in the 22% marginal tax bracket for 2023.4 But let’s say that 10 years ago you inherited as a nonspouse beneficiary an IRA that is worth $500,000 and you haven’t touched a penny of it. Withdrawing the entire amount this year would catapult you into the 35% tax bracket and may result in a big tax bill.

Of course, every situation is different, so you should always consult with an experienced tax professional before making any tax decisions. But in the example described above, the 22% tax bracket extends to $190,750 in taxable income, so you could potentially withdraw about $40,000 per year from the nonspouse beneficiary inherited IRA without affecting your marginal tax rate. And if your income fluctuates from one year to the next, consider higher withdrawals in years when your income is relatively low.

In short, we can add to the general rule of thumb. We believe it is generally best to choose the longest withdrawal time frame for which you’re eligible and to withdraw the money as tax-efficiently as possible.

Offset the tax implications

In some cases, you might be able to offset the additional taxes of inherited IRA withdrawals by increasing contributions to your own retirement accounts. In 2023, the elective deferral limit into 401(k)s and other qualifying retirement plans is $22,500, or $30,000 if you’re 50 or older.5 You may also be able to contribute to a traditional IRA of your own if your income qualifies, or a SEP-IRA or Simple IRA if you’re self-employed. The point is that if you withdraw from an inherited IRA and then max out your own retirement contributions, it might help keep tax impact to a minimum.

Take a look at the investments

While it’s generally beneficial for you to leave the money in an inherited IRA for as long as you can while maintaining tax efficiency, that doesn’t mean the investments in the inherited IRA should be completely left alone. As an example, many older investors shift their money away from stocks and into fixed-income instruments like bonds and CDs. If you’re relatively young, you may want to shift the asset allocation to something a little more aggressive and age appropriate for your personal situation.

If you don’t need the money

In some situations, the money from an inherited IRA might not be needed, or you might not want the tax hit. All beneficiaries of IRAs (spouses and non-spouses) can choose to not accept, or disclaim, the IRA and pass it to another beneficiary.

If you don’t need the money for your own financial security and simply cannot withdraw from the IRA in a tax-efficient manner, it could be smart planning to disclaim it. If you do so, it will pass you and go to the account’s contingent beneficiaries.6

For example, let’s say that you are 45 years old with two children. Your mother named you the beneficiary of her IRA and your children as the contingent beneficiaries. If you choose to disclaim the IRA, it will automatically pass to your children. If they need the money more, and are in a relatively low tax bracket, this could be smart estate planning.

There are a few rules that need to be followed. The disclaimer must be done in writing within nine months of the original owner’s death. The disclaimer must not have any conditions attached to it. You cannot choose who gets the disclaimed IRA—it will follow the contingent beneficiaries of the IRA of the original owner. And you must disclaim an IRA before accepting it (using any of the money, changing investments, etc.). A tax attorney or estate planning lawyer could help you do it if this sounds like it might be a smart option for you.

The bottom line on inherited IRAs

Inherited IRAs can be a great way for families to transfer wealth in a tax-efficient manner to their heirs, but as you can see, there’s a lot to unpack when it comes to using an inherited IRA in certain ways. With some smart planning, you may be able to put yourself in a position to minimize taxes and set yourself up for the future.

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