By Andy Ives, CFP®, AIF®
When a married IRA owner dies, the surviving spouse is oftentimes the beneficiary. Of course, there are instances where a trust might be named as IRA beneficiary, or the children or a charity or someone else is listed. Regardless, typically it is the spouse, and how that spouse treats the inherited IRA dollars is important. While at first glance this appears to be a simple decision, there are multiple variables and options to consider.
For example, how old is the surviving spouse (“she”), and will that surviving spouse need access to the IRA dollars? If she is under 59 ½ and needs access, then establishing an inherited IRA is the best option. This way she can tap into the IRA at any time without the 10% early withdrawal penalty. Moving too quickly and consolidating the inherited IRA into her own would bring the 10% early withdrawal penalty back into effect (if no other exception was applicable).
An inherited IRA for a surviving spouse is not final. At any age – but usually after age 59 ½ – she can do a spousal rollover and combine the inherited IRA with her own IRA. Even if the surviving spouse was only age 30 when her husband died, she could choose an inherited IRA to have penalty-free access to those inherited IRA dollars. Then, at 59 ½, do a spousal rollover. Since she would then be beyond the age when the early withdrawal penalty would apply, consolidating the inherited IRA assets with her own at that later date would make sense.
Continuing with this scenario of a young surviving spouse electing an inherited IRA, the required minimum distribution (RMD) rules are also beneficial to surviving spouses. Non-spouse beneficiaries of an IRA are either bound by the 10-year payout rule or, for those beneficiaries eligible to stretch payments, required to take a distribution each year. This RMD is based on the non-spouse beneficiary’s single life expectancy. Surviving spouse beneficiaries, on the other hand, are not required to take an RMD until the deceased spouse would have been age 72. For the woman in the paragraph above (who was only 30 when her husband died), if he was a similar age, then her RMDs from the inherited IRA would not start for 40+ years. By then she most likely would have already done a spousal rollover at age 59 ½.
Speaking of a “spousal rollover,” that option is only available to surviving spouse beneficiaries. Despite the name, the inherited IRA assets are transferred from the deceased spouse to the surviving spouse. A spousal rollover via transfer is not a taxable event. However, if the surviving spouse did erroneously take a full distribution of her deceased husband’s IRA, those dollars could potentially be rolled over to her own IRA within 60 days. This is yet another benefit afforded to a surviving spouse. Non-spouse IRA beneficiaries cannot do 60-day rollovers. If a non-spouse beneficiary takes a distribution of inherited IRA dollars, there is no putting them back, and any applicable taxes would be due.
A surviving spouse beneficiary has extra flexibility when it comes to claiming a deceased spouse’s IRA. However, be careful to take the proper steps. Some variables to consider include the age of the deceased spouse, age of the surviving spouse, does the surviving spouse need access to the dollars, and what type of IRA is involved (Roth vs. Traditional). A word to the wise: all beneficiaries, spouses and non, should seek professional guidance before making any final decisions when inheriting an IRA.