For Clients, Advisors and Community. In March and May, 2011, I wrote blog articles about the asset protection
aspects of inherited IRAs. This article describes current developments
involving tax aspects of inherited IRAs. What is so important about inherited IRAs?
With careful planning, the beneficiary of an inherited IRA (typically a
child) has the opportunity to defer income taxes (with tax-deferred growth)
over his or her lifetime. Many refer to this as the “stretch IRA”.
It is a significant income tax savings tool, particularly for individuals
who have large IRAs, or for whom tax deferred monies constitute a large
portion of their estate.
In some cases, without proper planning, the child or grandchild (and sometimes
the spouse if the planning is done incorrectly) only has five years to
withdraw all the money from the IRA. This is called the “five year
rule”. This accelerates all the tax payment. The government gets
its money at once. There is very little opportunity for tax-deferred growth.
The highway bill, which is currently moving through Congress, contained
a provision removing the “stretch IRA” and implementing the
five year rule for everyone. That would raise $4.6 billion over the next decade.
In recent weeks, there was an extensive campaign by members of the Financial
Services Institute (your financial planners) which put extreme pressure
on Congress, especially the Majority Leader of the Senate, Senator Harry
Reid. Last week, Senator Reid removed the offending provision from the
highway bill thereby leaving the current “stretch IRA” provisions in force.
The national experts in the field think that the Congress may revisit the
matter. Who knows what is going to happen when the government is looking
under every rock for revenue!
Strategy: If you or a family member is the beneficiary of an account or
benefit in a profit sharing, 401(k), or pension plan where the employee
has passed away, it will be important to do an inherited IRA rollover
as soon as possible. You need to consult a financial planner or investment
advisor who is familiar with the rules, as well as a tax attorney to ensure
that the IRA is coordinated with your estate plan. The rules are complicated.
You need to find individuals who are fully trained in the required minimum
distribution (RMD) and trust rules.
Taxation of Inherited IRAs is one place the Congress may go looking for
revenue. There is a possibility that the stretch IRA may become a thing
of the past; I doubt it because there will be another uprising. Nonetheless,
it makes sense to plan now.