Prior to the SECURE Act, it was always important to ensure that a qualifying beneficiary designation was made to IRAs and other qualified retirement accounts. This could be an individual or a trust with the appropriate provisions that would allow the qualified retirement account to extend the tax-deferred benefits of the retirement account (commonly referred to as the “stretch”).
If there was no qualified beneficiary designation when the owner of the IRA account died, then the inherited IRA would be subject to tax liability within 5 years (actually by December 31 of the year containing the fifth anniversary of the owner’s death). This was common in situations where the owner either had no living beneficiary or named a non-qualifying trust as beneficiary.
Change Under the SECURE Act
Now, as a result of the SECURE Act, all beneficiaries designated (other than “eligible beneficiaries”) are subject to the 10-year payout rule, which dictates that the Inherited IRA must be distributed to the beneficiary within 10 years of the IRA owner’s death. The distributions will be subject to income tax.
An eligible beneficiary can take advantage of the tax-deferred benefit, delay the distributions, and in certain cases avoid the 10-year payout rule.
If there is no living beneficiary designated, then the 5-year rule still applies under the SECURE Act.
Eligible Designated Beneficiaries
The following are eligible designated beneficiaries who are entitled to the stretch:
- Surviving spouse of the deceased retirement account owner
- A minor child of the deceased account owner (subject, however, to the 10-year payout rule once the beneficiary reaches the age of majority)
- A beneficiary who is not more than 10-years younger than the deceased account owner
- A beneficiary who is disabled or chronically ill
Given the fact that a surviving spouse is an eligible designated beneficiary, it is a good idea to consider naming your spouse as the designated beneficiary on your IRAs.
It is important to consider who should be appointed as your designated beneficiaries when selecting beneficiaries, and in many cases, you should consider changing your beneficiary designations to take advantage of tax planning strategies.
Next, we will look at planning for inherited IRAs.