The 50% missed-RMD penalty most online guides still cite no longer exists. SECURE Act 2.0 cut it to 25%, and to 10% if you fix the shortfall within two years. If the article you’re reading hasn’t been updated since 2022, almost everything it tells you about penalties is wrong.
Receiving an inherited retirement account can be a significant event in both your financial journey and your family’s legacy.
Whatever the account type is, be it a traditional IRA, a Roth IRA, or a 401(k), knowing and understanding the implications and options available to you is crucial.
This guide offers valuable insights on what to do next following this important inheritance, key rules and options, and potential pitfalls.
Let’s continue to read on…
Identify the Type of Account – First off, you should determine if it’s a traditional (tax-deferred) or Roth (tax-free if qualified) account. Understanding this is especially important when considering the tax on inherited IRAs, which can affect your long-term financial planning.
Determine Your Beneficiary Status – Remember, rules vary for spouses, minor children, disabled individuals, or non-spouse individuals, such as children.
Set Up an Inherited IRA Account – It’s advisable to transfer the assets to a new, specialized account. It must be titled as “Inherited [Account Type] for [Your Name], Beneficiary of [Original Owner’s Name]”.
Avoid Cashing Out Immediately – If you take a lump sum amount, you can create a massive tax bill in just one year. So, don’t do that.
The 10-Year Rule – Most non-spouse beneficiaries are required to empty the account by December 31 of the 10th year following the owner’s death.
RMDs (If Applicable) – What if the original owner was already taking RMDs? In that case, you need to continue taking annual withdrawals. Such withdrawals must depend on your life expectancy (or theirs, if longer) through years 1 to 9, and empty the account by year 10.
Spousal Options – If you’re a surviving spouse, you can create the account as your own, transfer it to your own IRA, or treat it as an inherited IRA.
Exceptions – Eligible designated beneficiaries (such as a spouse, minor child, or disabled/chronically ill beneficiary) may not be bound by the 10-year rule. They can stretch distributions over their lifetimes.
50% Penalty – If you fail to take RMDs by the deadline, you may incur a steep 50% penalty on the required amount. It’s important to note that some rules have recently adjusted this penalty. So, check for details.
Income Tax – Inherited traditional IRA distributions are taxed as ordinary income. This is what can push you into a higher tax bracket.
Disclaimer: It’s wise to consult with a seasoned financial planner or advisor, as rules and regulations pertaining to inherited IRAs are complex and rely on specific dates and relationships. With their support and guidance, you’ll stay financially stable without any tax burden.
Walking through the key actions to manage this valuable asset, important rules and options to consider, and some implications you may have to face will keep you on track to financial success.
If it’s your first time inheriting an IRA account, and you want to know more info about inherited IRAs, distribution rules, and tax planning strategies, browse Creative Planning platform.
The 10-year rule requires most non-spouse beneficiaries who inherited an IRA after December 31, 2019 to fully empty the account by December 31 of the tenth year following the original owner’s death. The rule applies to traditional IRAs, Roth IRAs, and 401(k) accounts, with specific exceptions for surviving spouses, minor children of the account owner, disabled or chronically ill beneficiaries, and beneficiaries not more than 10 years younger than the deceased. The 2024 Final Regulations confirmed that annual RMDs are also required inside the 10-year window if the original owner had already begun taking RMDs before death, which changed the planning calculus for many beneficiaries who inherited in 2020 through 2024.
Annual RMDs inside the 10-year window are required only if the original account owner had already begun taking RMDs before they died. If the owner died on or after their required beginning date (currently age 73 under SECURE 2.0), non-spouse beneficiaries must take annual RMDs in years one through nine of the 10-year window and empty the account by year 10. If the owner died before reaching age 73, no annual RMDs are required inside the window, though the account must still be fully distributed by year 10. Eligible designated beneficiaries who use the lifetime stretch approach take annual RMDs based on their own life expectancy instead.
The penalty for missing a required minimum distribution is 25% of the shortfall, reduced to 10% if you correct the missed distribution within two years by withdrawing the missed amount and filing IRS Form 5329. SECURE Act 2.0 cut the previous 50% penalty in half in December 2022 and added the corrected-shortfall reduction, so older guides still citing 50% are out of date. The penalty is calculated on the amount that should have been distributed, not on the full account balance, and the missed distribution must still be taken in addition to the penalty. The IRS waived the penalty for missed inherited-IRA RMDs in 2021 through 2024, but those waivers expired and the 25% penalty applies again in 2025 and 2026.
A surviving spouse can roll an inherited IRA into their own IRA at any time, which is generally the best option for a spouse who is younger than the deceased and wants to defer required distributions until their own RMD age. Once rolled over, the account is treated as the surviving spouse’s own IRA for all purposes, with RMDs starting at the spouse’s age 73 (rising to 75 in 2033 under SECURE 2.0). The trade-off is that distributions before age 59½ trigger the 10% early withdrawal penalty, so spouses under 59½ who need access to the funds may prefer keeping the assets in an inherited IRA where the early withdrawal penalty does not apply.
Inherited Roth IRA distributions are tax-free if the original Roth account met the five-year holding period before the owner died, which is the same rule that applies to qualified distributions from any Roth IRA. The 10-year liquidation deadline still applies to inherited Roth accounts despite the tax-free treatment, so the full balance must be distributed by December 31 of the tenth year following the owner’s death. Most Roth beneficiaries benefit from waiting until year 10 to maximize tax-free growth before taking the full balance in a single distribution, since there’s no tax bracket-stacking concern with tax-free withdrawals. Annual RMDs inside the 10-year window are not required for inherited Roth accounts because the original owner was not required to take RMDs from a Roth IRA during their lifetime.
