In 2024, new rules for inheriting Individual Retirement Accounts (IRAs) have been introduced, significantly impacting how beneficiaries manage and distribute these assets. These changes are primarily aimed at closing loopholes and ensuring that retirement savings are distributed within a reasonable timeframe.
The 10-Year Rule
One of the most significant changes is the reinforcement of the “10-Year Rule,” which was initially introduced by the SECURE Act of 2019. Under this rule, most non-spousal beneficiaries of IRAs are required to withdraw the entire balance of the inherited IRA within ten years following the original account holder’s death. This means that stretching IRA distributions over a lifetime – a common strategy to minimize taxes – is no longer an option for most beneficiaries. However, there are exceptions to the 10-Year Rule:
Eligible Designated Beneficiaries (EDBs): These include surviving spouses, minor children of the deceased (until they reach the age of majority), disabled individuals, chronically ill individuals, and beneficiaries not more than 10 years younger than the deceased. EDBs can still stretch distributions over their lifetime.
Minor Children:
There is a special rule for some minors. ONLY minor children of the IRA owner are considered to be eligible designated beneficiaries (EDBs) and can take required minimum distributions (RMDs) based on their single life expectancy until age 21. Once minor children reach the age of majority (age 21, regardless of state law) the 10-Year Rule kicks in, requiring them to withdraw the remaining balance no later than ten years after turning 21. Note ONLY minor children of the IRA account owner are considered EDBs. Minor children who are NOT the child of the IRA owner cannot delay the 10-year rule until age of majority. So, other minor beneficiaries, such as grandchildren, nieces and nephews, are not considered EDBs.
New Reporting Requirements
In 2024, the IRS has also introduced stricter reporting requirements for inherited IRAs. Beneficiaries are now required to provide more detailed information on distributions, ensuring that the IRS can more effectively monitor compliance with the 10-Year Rule.
Impact on Planning Strategies
These changes mean that estate planning strategies involving IRAs need to be revisited. Beneficiaries may need to consider the tax implications of larger distributions over a shorter period. Additionally, the potential for a significant tax hit when inheriting a large IRA could necessitate more careful planning to mitigate tax burdens. For most non-spouse beneficiaries, timing is everything. They must empty the inherited IRA account within 10 years. However, if the original account holder had NOT started taking RMDs, they are NOT obligated to take a distribution every year.
This provision makes it easier to avoid an ill-timed distribution that could bump a beneficiary into a much higher tax bracket. Taking RMDs will avoid the excise tax (25%) that would apply to shortfalls. But, sometimes, it is more tax-efficient for a beneficiary to take more than their RMD. For example, to avoid a large balloon amount occurring in the 10th year. It is important for this reason to carefully review cash flow projections and plan for distributions to avoid paying higher taxes, which could have been avoided.
Also, discussions about beneficiary options must include planning beyond the primary beneficiary to include successor beneficiaries. Consequently, a comprehensive estate plan includes planning for the account owner and their primary and successor beneficiaries.
Spousal Beneficiaries
For spousal beneficiaries, the rules remain relatively unchanged. Spouses can continue to treat the inherited IRA as their own, allowing them to roll it over into their own IRA or continue to defer distributions until they reach the age of 73, the current age for required minimum distributions (RMDs).
The 10-Year Rule for Roth IRAs
Beneficiaries of Roth IRAs are also subject to the 10-year rule, with two key differences. They needn’t take annual RMDs over 10 years. Also, similar to Roth IRA owners, Roth beneficiaries aren’t taxed on distributions. These rules also apply to designated Roth accounts (DRA) inherited 2024 and after, such as Roth 401 (k), Roth 403(b) and Roth 457(b) accounts.. These new rules may make Roth accounts more appealing for certain savers who hope to pass assets on to their heirs.
Conclusion
The new rules for inheriting an IRA in 2024 underscore the importance of careful estate planning. Beneficiaries and account holders alike should review their plans with trusted advisors to ensure they are prepared for these changes and can maximize the benefits of their retirement savings while minimizing potential tax liabilities. Modeling the universe of strategies for an array of potential tax environments takes considerable time, coordination and decision-making.
Here at Callan Capital, we discuss strategies and action items for optimizing plans, including how our financial planning process can help our clients model how tax changes may impact their goals, liquidity and complete tax picture, both during their lifetime and for their beneficiaries.
Disclaimer:
The information provided is for informational purposes only and should not be considered investment advice. The information contained herein reflects Callan Capital’s views as of the date of distribution. Such views are subject to change at any time without notice due to changes in market or economic conditions and may not necessarily come to pass. Callan Capital does not provide tax, estate planning or legal advice. To the extent that any material herein concerns tax or legal matters, such information is not intended to be solely relied upon nor used for the purpose of making tax and/or legal decisions without first seeking independent advice from a tax and/or legal professional. Any forward-looking statements or forecasts are based on assumptions and actual results are expected to vary from any such statements or forecasts. No reliance should be placed on any such statements or forecasts when making any decision. Callan Capital is not responsible for the consequences of any decisions or actions taken as a result of the information provided in this presentation and does not warrant or guarantee the accuracy or completeness of this information. No part of this material may be (i) copied, photocopied, or duplicated in any form, by any means, or (ii) redistributed without the prior written consent of Callan Capital. For detailed information about our services and fees, please read our Form ADV Part 2A, and our Form CRS, which can be found at https://www.advisorinfo.sec.gov, or you can call us and request a copy at (866) 912-4888.