Distribution rules for inherited retirement plan assets

As our clients address many of the issues associated with estate planning, one of the questions that usually comes up is the beneficiary designations associated with retirement account assets. An important factor to consider in naming a beneficiary of your retirement account is the how the required minimum distribution rules (RMD rules) apply to beneficiaries.

The options to distribute inherited retirement account assets is complicated since the options available vary based on several factors. Here is a framework of the options available:

The first factor to address was did the individual die before the Required Beginning Date (RBD). This date occurs on April 1st of the year following the calendar year the participant reaches age 70.5.

If so, look to the next factor regarding the status of the Beneficiary

#1) Spouse as Sole Primary Beneficiary has the option to

• Distribute the assets over his or her life expectancy or
• Distribute the entire retirement account balance by December 31 of the fifth year following the year the participant dies or
• Move the assets to his or her own IRA

#2) Non-Spouse Beneficiary

• May distribute the assets over the life expectancy of the oldest beneficiary or
• Distribute the entire retirement account balance by December 31 of the fifth year following the year the participant dies

For both the spouse and non-spouse beneficiary, the life expectancy option is the default option if no election is made.

#3) Non-Spouse Non-Person Beneficiary

An individual may choose to designate a non-person, such as the individual’s estate or trust as the beneficiary of the retirement account. In this case the retirement account assets must be distributed in full by December 31st of the fifth year following the year the participant dies.

If the individual dies after the RBD (April 1 of the calendar year following attaining age 70.5 years)

#1) Spouse as Sole Primary Beneficiary has the option to

Distribute the assets over the longer of his or her life expectancy or the remaining life expectancy of the deceased.

If the funds are distributed over the life expectancy of the spouse his or her life expectancy is recalculated each year. If the funds are distributed over the remaining life expectancy of the deceased the life expectancy is fixed in the year of death and reduced by 1 in each subsequent year.

#2) Non-Spouse Beneficiary

Distribute the assets over the longer of the life expectancy of the oldest beneficiary or the remaining life expectancy of the deceased.

If the funds are distributed over the life expectancy of the oldest beneficiary his or her life expectancy is fixed in the year after the death of the participant and reduced by 1 each subsequent year. If the funds are distributed over the remaining life expectancy of the deceased the life expectancy is fixed in the year of death and reduced by 1 in each subsequent year.

#3) Non-Spouse Non-Person Beneficiary

If the beneficiary is a non-person, the assets must be distributed over the reaming life expectancy of the deceased and reduced by 1 each subsequent year.

In all cases for assets inherited due to the death of the participant after RBD, distributions must begin by December 31 of the year following the year the participant dies.

What about ROTH IRA’S?

Roth IRA’s do not have RMD rules but that ends upon inheritance as the beneficiaries must follow the same rules as a regular IRA or retirement plan.

The life expectancy tables for year 2018 are provided in IRS Publication 590-B (Table 1 – Single Life Expectancy Table of Appendix C – pages 45 and 46). Here is the link.

https://www.irs.gov/pub/irs-pdf/p590b.pdf

As you can see, the rules are complicated, but naming a non-person beneficiary (your estate or trust) as the beneficiary of your retirement account will always result in the shortest possible required minimum distribution period for the beneficiaries which is not a wise income tax strategy. However, each situation should consider all factors. For example; if one of your beneficiaries is not financially responsible, you may very well choose your estate or trust as a beneficiary to protect the assets of the estate.

If you would like to discuss, please contact us.