4 Things to Never Do with an Inherited IRA

An inherited IRA is an Individual Retirement Account acquired by a beneficiary after the original account owner's death. The rules for inherited IRAs can vary depending on the beneficiary's relationship to the original owner and the type of IRA inherited.

Inheriting an individual retirement account can be a very fortunate thing, if done correctly. But be forewarned, inherited IRAs come with a lot of rules – more than your own IRA. The most significant rule changes were introduced under the SECURE Act of 2019:

• For IRAs inherited from someone who passed away in 2020 or later, non-spouse beneficiaries are generally required to fully distribute the account within 10 years of the original owner's death.
• Annual Required Minimum Distributions (RMDs) may be part of the equation.
• Certain beneficiaries, such as surviving spouses, minor children, disabled or chronically ill individuals, and those not more than 10 years younger than the original owner, may qualify for exceptions that allow them to stretch distributions over their lifetime, rather than adhering to the 10-year rule.

It is important that you take the time to learn about your new inheritance before you make any costly mistakes. First things first, though – please consider consulting a tax professional and/or a financial advisor to discuss your own unique situation.

In the meantime, here are 4 things you should never do with your inherited IRA.

Withdraw the Entire Balance in One Lump Sum

If you're a non-spouse beneficiary, you will be required to withdraw the entire balance within 10 years, but this allows flexibility in timing withdrawals to manage your tax burden. Taking a lump-sum withdrawal can trigger significant income taxes on the full amount, potentially pushing you into a higher tax bracket. Keep in mind that inherited IRAs (except Roth IRAs, if held for five years) generally involve taxable distributions. Consider your tax situation when planning withdrawals, as waiting to withdraw until a year with lower income can help minimize

Ignore Annual Required Minimum Distributions

The IRS has updated its rules regarding Required Minimum Distributions (RMDs) for inherited Individual Retirement Accounts (IRAs), especially affecting non-spouse beneficiaries.

If the original IRA owner had already started taking RMDs before their death, the beneficiary must continue to take annual RMDs over the 10-year period, based on their own life expectancy. This goes into effect beginning in 2025.

It is also important to note, that if the owner of the IRA died before taking their RMD for that year, the non-spouse beneficiary must take the RMD on their behalf.

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60-Day Rollover

To avoid unwanted taxation, you’ll want to request a trustee-to-trustee transfer directly from one account to another or from one IRA custodian to another when receiving an inherited IRA. For non-spouse beneficiaries, there is no 60-day rollover option. This means if you receive a distribution to then transfer into a new IRA, it will be taxed as ordinary income, even if it is well within the 60-day time frame. You will also be unable to deposit the money back into the inherited IRA.

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Commingle with Another IRA

If you are a non-spouse beneficiary, you cannot simply roll the Inherited IRA into your existing IRA. (Spouse beneficiaries are permitted to do this, but are not required to.)

Additionally, if you happen to inherit multiple IRAs from one individual, you can combine them into one IRA. However, if they are different types of IRAs, such as a traditional IRA and a ROTH, these cannot be combined into one account. Beneficiaries must also note that assets in inherited IRAs from different individuals cannot be combined.

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While these are some of the most common mistakes that account holders/beneficiaries make, there are plenty of other ones to watch out for – even if they are not of your doing.

For example, we have seen instances where custodians/investment firms have made major mistakes, such as incorrectly registering the account or failing to provide the annual IRS form 5498 which shows the specific information on Required Minimum Distributions. (FYI – If you miss the deadline for taking your RMD from your inherited IRA, you owe the IRS an excise tax of 25% of the shortfall. Ouch!)

While these mistakes were not the beneficiary’s doing, the responsibility – and penalty – falls on the shoulders of the beneficiary. It is important to contact a qualified financial advisor to make sure all the information you’re getting from the IRA custodian is correct – and that you are staying within IRS guidelines.

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Bill Davis is a CERTIFIED FINANCIAL PLANNER? and Managing Partner with Vericrest Private Wealth LLC, a financial advisory firm in Newtown, Pennsylvania.

Vericrest Private Wealth LLC ("Vericrest") is an SEC registered investment advisory firm. The information provided herein should not be?construed as personalized investment advice and should not be considered as a solicitation to buy or sell any security or investment advisory service.?Past performance is no guarantee of future results, and there is no guarantee that future investments will be profitable. While we believe that third party information provided is accurate, Vericrest does not guarantee or otherwise warrant such information.?For more information please contact Vericrest or refer to the Investment Adviser Public Disclosure website?(www.adviserinfo.sec.gov) to review important disclosures about our firm.