Have you been named as a beneficiary to an individual retirement account (often referred to as an IRA)? You may not be aware you’ve been named as a beneficiary until a loved one or someone close to you passes away. According to a Cerulli Research Report, almost $100 trillion of wealth will be passed down from Baby Boomers and earlier generations over the next 25 years during their lifetime and at death. What do you need to know to be ready? IRAs can carry complicated inheritance rules in the account, and, even worse, leave you with less than what you think you actually inherited after income taxes.
With the introduction of tax-advantaged individual retirement savings accounts in 1974, people were encouraged by law makers to save for retirement separately from Social Security and company pension plans. Tax deductions were given to offset the savings amount into retirement accounts which included private retirement plans, individual retirement accounts (IRA) and 401(k) plans. Over the decades, the decision to save and invest has accumulated into a great deal of wealth for Americans. And if you are a recipient of any of these types of retirement accounts at someone’s death, you will likely be sharing your inheritance with the Internal Revenue Service (IRS). By thoughtfully planning how you take out funds from an IRA you inherit, you can lower the tax bill and keep more of it for yourself.
What To Know When Inheriting an IRA
As a beneficiary inheriting an IRA, you will likely be required to move the retirement accounts into a retirement vehicle titled “Inherited IRA” or “Beneficiary IRA”. Once in the Inherited IRA, certain rules will apply to you based on your relationship to the deceased IRA owner. The main things to consider are:
- Your relationship to the previous IRA owner (spouse, parent, friend, etc.)
- Was the death before or after 2020? (Thanks to The SECURE ACT 2.0 the rules changed, and some rules are grandfathered)?
- Did the previous owner begin taking required minimum distributions also known as RMD or MRD?
- The IRS website has a guide with more details: https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-beneficiary
Generally speaking, after you answer these questions, you will be able to determine the timeline for your RMDs, how much (if at all) you MUST take out each year using an IRS table and calculation, and if you will be required to withdraw the entire account within a 10-year window. There are exceptions and rules for Minors (younger than 21 years old) of Inherited IRAs as well. There are further complexities if a trust is named as the direct beneficiary of an IRA, and you are receiving the Inherited IRA through the trust. Roth accounts have different rules as well.
Important Planning Steps for Inheriting an IRA
One of the biggest mistakes is taking the inherited IRA as a lump sum distribution without being intentional. This will likely push you to a higher tax bracket if the amount is substantial. When you spread out the distributions beyond one year, you have the opportunity to reduce the taxes you pay, resulting in more funds going to you.
Let’s say you have a 10-year mandatory distribution requirement. In year 2, perhaps your spouse loses their job and you can use the IRA distribution to replace some of that income, giving you both more time to adjust? In year 4, what if you are now an entrepreneur? Business owners have more options to increase tax deductions. In year 6, you planned to retire and know you’ll have lower income. What a great year to look at taking a larger Inherited IRA distribution!
The opportunities to keep more for you and less for the IRS comes from income tax planning within the marginal tax brackets (federal).
2025 Federal Tax Table (Marginal Rates):
| Tax Rate | Single | Married Filing Jointly | Head of Household | Married Filing Separately |
| 10% | $0 to $11,925 | $0 to $23,850 | $0 to $17,000 | $0 to $11,925 |
| 12% | $11,926 to $48,475 | $23,851 to $96,950 | $17,001 to $64,850 | $11,926 to $48,475 |
| 22% | $48,476 to $103,350 | $96,951 to $206,700 | $64,851 to $103,350 | $48,476 to $103,350 |
| 24% | $103,351 to $197,300 | $206,701 to $394,600 | $103,351 to $197,300 | $103,351 to $197,300 |
| 32% | $197,301 to $250,525 | $394,601 to $501,050 | $197,301 to $250,500 | $197,301 to $250,525 |
| 35% | $250,526 to $626,350 | $501,051 to $751,600 | $250,501 to $626,350 | $250,526 to $375,800 |
| 37% | $626,351 or more | $751,601 or more | $626,351 or more | $375,801 or more |
Utilizing ways to strategically bundle and increase your itemized deductions (think charitable gifts, property taxes, and medical expenses) can additionally lower your tax bracket.
Planning the timing of your distributions when Inheriting an IRA can further be impacted by years you are in between jobs, anticipate your own retirement in the near future, or other reasons where you may have an opportunity to be in the low-income tax brackets.
There are more factors and rules to consider than what has been mentioned in this article including the estate tax for inheritance (the “death tax”) if your own estate is above the lifetime exclusion amount – a separate topic, for another day. As you can see, proper planning and working with a financial professional can be extremely beneficial.
We’re Here to Help
These are some of the advanced planning areas our team at FCA Corp helps our clients with daily. Whether you are inheriting an IRA or need to consider how to name beneficiaries for your own IRA, FCA Corp can help you navigate the complexities of some of these financial decisions. There is more to working with a financial advisor than investments and asset allocation, and we’re here to help.
