New distribution rules for inherited IRAs
The SECURE Act of 2019 significantly changed the rules applicable to inherited Individual Retirement Accounts starting on January 1, 2020, for beneficiaries other than the surviving spouse and some limited special circumstances. For most non-spouse beneficiaries, the IRA must be distributed to the beneficiary no later than 10 years from the date of the IRA participant’s death.
Distributions from inherited IRAs before the SECURE Act
An IRA inherited from someone other than a spouse forces the beneficiary to make decisions about how and when to withdraw assets from it. Distributions represent taxable income when taken. This may be an issue when the beneficiary of the IRA is at the peak-earning stage of their career. It would be better to extend the period over which they receive the benefits of the retirement account inheritance.
An IRA inherited prior to January 1, 2020, the effective date of the SECURE Act, gave the beneficiary the option to take the income over the course of their lifetime. Not only did this provide them with a source of income to fund their retirement years, but it also reduced their income tax liability by stretching the distributions beyond peak earning years. The SECURE Act changed that option.
Distribution options available under the SECURE Act
As of January 1, 2020, the ability to stretch out distributions from an inherited IRA over the remaining years of life of the beneficiary no longer exists. Instead, the SECURE Act requires liquidation of the account within 10 years from when it is inherited. Assets remaining after 10 years are subject to a 50% excise tax.
Using a Charitable Remainder Unitrust (“CRUT”) to Stretch IRA Distributions
Setting up a CRUT and making it the beneficiary of an IRA may provide greater flexibility to defer taxable income than offered by the SECURE Act. Upon the death of the creator of the CRUT, assets from the IRA are transferred to the CRUT. Because the CRUT is tax-exempt, it does not pay income taxes on receipt of the IRA distribution. The CRUT must distribute between 5% and 50% of the fair market value of the assets from the CRUT each year to its beneficiaries. This allows the creator of the CRUT to stretch the distribution of assets over a longer period than would be possible had the IRA been inherited directly by the beneficiaries. Upon termination of the CRUT, which would be when payments to the beneficiaries cease according to the terms of the CRUT agreement, the assets remaining in the CRUT are distributed to the charity or charities designated. Because the payments to the beneficiaries must generally be outright, a CRUT works best for beneficiaries who will likely need substantial distributions, are not likely to have taxable estates and are likely to use, rather than accumulate, the money. As with all planning options, this is not the right solution for everyone, but it is an option that will be beneficial to many and should be considered.
Consult an estate and retirement planning attorney for assistance
The estate planning attorneys at Magee and Adler have the experience and knowledge to offer solutions to the challenges presented by the SECURE Act. Call them today at 562-432-1001 for an appointment to learn what options may be available to you.