Inheriting An IRA

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This is the Truth Network. Welcome to Finishing Wealth, brought to you by CardinalGuide.com, with certified financial planner, Hans Scheil, bestselling author and financial planner, helping families finish well for over 40 years. On Finishing Wealth, we'll examine both biblical and practical knowledge to assist families in finishing wealth, including discussions on managing social security, Medicare, IRAs, long-term care, life insurance, investments, and taxes. Now let's get started with Finishing Wealth. Finishing Wealth is a general discussion and education of the issues facing retirees. CardinalGuide.com, Cardinal Advisors, and Hans Scheil CFP sell insurance.

This show does not offer investment products or investment advice. So welcome to Finishing Wealth with certified financial planner, Hans Scheil, and today's show, an IRA inheritance or inheriting an IRA. Either way you want to say that.

We're talking about what happens when someone inherits an IRA and new tax laws along those lines. But to kind of set that up, as always, God has given me this scripture which seems so applicable to what Hans is going to talk about today, and you'll find this in the first Peter, the chapter of 1 Peter, the first chapter of 1 Peter, where it says, Blessed be the God and Father of our Lord Jesus Christ, who according to His abundant mercy has begotten us again to the living hope through the resurrection of Jesus Christ from the dead, to an inheritance. That's the key word of what we're talking about today. To an inheritance incorruptible and undefiled and that does not fade away, and that's reserved in heaven for you. So as we, you know, think about, I'm sure all of us have an inheritance that we would love to give our families, and nothing could be better than that one, as they could inherit that relationship and an introduction into their own faith and their own relationship with Jesus Christ, which again would be incorruptible.

Nobody can get between Him and them and undefiled and that it does not fade away. In other words, it's eternal and it's reserved in heaven for you who understand what I'm talking about, but also as we share that, you know, with our own families. And how neat that I really, from my perspective, that I have my friend Hans Schall here to help us in stewarding our own and our earthly inheritances, our financial resources, in a way that they would be incorruptible as much as possible and undefiled as much as possible and that they don't fade away, which we're talking a lot about that today. You know, again, we want to store up treasure in heaven more than what we do on earth. But I also want to just put a good word in for my dad, Hans, because, you know, one thing he did do really, really well in my opinion when he set up this inheritance, didn't have to do with his IRA, but he made a living will where he actually gave, you know, my kids that, you know, the house he lived in, but with us being able to live in the house. So that house won't fade away, at least for one generation. You know, it was kind of neat the way he did that, but he obviously did a lot of planning and a lot of thought about how, you know, his inheritance would work. And that's what we're really looking to help people do today, right?

We absolutely are. So the subject of inherited IRAs affects most of us before we do this, most of us, because you either have inherited an IRA, or you're gonna inherit an IRA, or you have an IRA, and you're leaving your kids as a beneficiary or your adult kids. And so you're gonna be the inheritor or the passer-alonger of an inherited IRA. So this kind of affects everybody that has any sort of IRA money tied to their lineage. Yeah, and I know that it's more and more common, but the fascinating thing is, obviously, the IRS and the government has honed in on all the IRA money that's changing hands, and they are changing those laws just almost, it seems like, yearly now.

Well, they are. And so the SECURE Act, which was passed in 2019, and it took effect for deaths beginning January 1, 2020, and after. So it's already been enforced for a couple years and a few months. So people that have lost loved ones in the last couple of years, and they're the beneficiary, they fall under the SECURE Act thing. Now, we were all a little unsure about some of the provisions of the laws. I mean, when I talk about we as in financial planners, because the IRS had not issued their regulations that they just came out with for the SECURE Act. So you got the law passing in 2019. It goes in effect January 1, 2020, but it takes until the winter of 2022 before the IRS say this is the way it really works.

These are the details. And so what changed under the IRS regulations that just came out is that if you're a beneficiary of someone who passed away, and they already had started their required minimum distributions, which kind of means they were 72 and older, and then you inherit the IRA by beneficiary. We used to think that you could wait 10 years to take out anything, or you could take out a little bit here and a little bit there. Just the account had to be emptied at the end of the 10 years. But the IRS has added something now. And what they've added is that if they've already, you know, if the person who died had already started required minimum distributions, you now need to take distributions as the beneficiary in years one through nine, and then you need to empty the thing completely in year 10. So does that make any sense to you?

Yeah, it does. But it, you know, it goes back to the idea that, okay, there was nothing other than you could take out distributions if, you know, prior to the SECURE Act, right, you could take out distributions for your entire life, right, if you were if you inherited this IRA. Right.

You could stretch this out. If you were 50 when your parent died or whatever, then you could stretch this out over 38 years, effectively making smaller distributions every year for 38 years. And what the SECURE Act changed is they said, you've only got 10 years to empty this thing. And at the end of the 10th year after their passing, this IRA needs to be empty. And so, which means you've paid tax on all the money over 10 years. Now, what was unclear before is we thought that somebody could take nothing for the first nine years and then empty it all out, take all of it in the 10th year. And you can't do that anymore.

Right. And so I love what you say in the video, which again, the IRA inheriting IRA, you said, you know, they don't really expect anybody to memorize all this stuff. But the point that you're trying to make here, and I think it's very clear, is that, man, this requires planning. Like whether you're inheriting the IRA yourself or you're setting up the inheritance for your family, you know, what's the best way, based on the tax laws, to make sure that, you know, you're a good steward of that money? Because, wow, I mean, if people mishandle this and take all this income, I mean, kind of walk through what what you see happen so many times because you deal with so many people as, as their families inherited, you know, these IRAs, what happens with most of them?

Well, taking away the stretch provision, like the example of the 38 years, which the SECURE Act did take away, doesn't really have an effect on most people because you know what most people do is they take the money. You know, if people have three kids as beneficiaries, all three names, they're generally going to have one of them stretch the money, and the other two are going to take the money in cash. I mean, that's just been my experience, and the reason they do that is this is the first money to show up. I mean, beneficiaries get paid much quicker than benefactors of an estate, because an estate and probate takes sometimes years to finish, but it only takes 30 days to get a beneficiary into the custodian and get the beneficiary paid off. So when this beneficiary has a choice to make real quick, it's the first money to show up, and it usually is in the hundreds of thousands of dollars, at least in the tens of thousands. So it's a significant amount of money, and they will real easily say, well, I got to give up 40% of it, but in order to get the 60%, I got to give up 40% or pay off the tax man, send me a check. Right, not realizing that unfortunately not only is it the 40%, but what that does to their income for that year is another huge setback, right? Well, it may be worse than 40% because if they otherwise make 80 grand a year and they inherit $200,000 through an IRA and they take it all at once, their income is going to go from 80,000 to 280,000 for that year, and I just used 40% because it's a simple example, and it's not necessarily the right thing to do, but people end up doing that because it's the only way to access the money. Right, and they actually don't understand that, wow, there's people like Hans. You could call and they could give you all sorts of different ways, even at the point of the inheritance, but even better, oh my goodness, if you plan this, you know, before that day ever came, and that's one of the big reasons for this show, right?

Well, it is. You know, it's one thing for the money you're going to inherit, okay, and a lot of folks are uncomfortable going to their parents who are up there in years and talking about this stuff, and I'm not necessarily suggesting you're doing that, but many of them talk about it, and they say, oh, I got that IRA over there, that's for you, and I've just been taken out the minimum, just saving that for you. Well, for starters, if the parents are in a lower tax bracket than mom and dad, I mean, than you are, if you're the adult child in the beneficiary, they would be better off taking 20 grand a year out of that thing, paying the low taxes, even just saving the difference in an account where the taxes are already paid. I had a client the other day that just was explaining that his dad has about five hundred thousand dollars in an IRA still, and you know, he's going to be inheriting that, and I was explaining this 10-year rule and how he's going to want to spread that over 10 years.

He's in a real high tax bracket, but it would be better to go to his dad and say, take out a little more next year, and the year after, and the year after, as long as he's alive, and even if you just save the difference, than leave the after-tax money to me. Yeah, I mean, it seems like, well, there's so many different ideas, and we're going to talk about that when we come back. Of course, we want to make mention, the show's brought to you by cardinalguide.com, where you can find Hans's contact information, as well as his book, The Complete Cardinal Guide to Planning for and Living in Retirement, and of course, there is Cardinal Advisors at YouTube, but YouTube, there's a whole video, shows, charts, and all sorts of neat stuff about inheriting IRAs, and that, of course, is Cardinal Advisors.

You'll see him up right there. Easy and fun. So, when we come back, we're going to share a whole lot more on inheriting an IRA.

We'll be right back. Welcome back to Finishing Well with my good friend and financial planner, Hans Scheil, and today's show is inheriting IRAs, and so, wow, what you said on the break actually tickled me, so, but go ahead and share with our listeners a little bit about what you're talking about. Well, people generally come into me in their 60s, okay. Some people, 50s, some people do makeup stuff and they show up at 75, and that's fine too. I mean, I can help all groups, but most people show up during their 60s, and we sit down, and we lay out their assets, and we start planning out the next 20, 30, 40 years, you know, for a couple or for one, and the first place we're going to go, where a lot of the money is, is in an IRA, or it's still in a 401k, and you know, it's all pre-tax money, and so I have to be the bearer of bad news that between now and the end, when you pass away, which isn't the end really, but it's just when you pass away, the taxes are going to need to be paid on this big balance in your IRA, or you're going to pass that liability onto your children. And with some people, that's perfectly fine, but without many others, it's not. I mean, once they really think through this and being a good steward of the money. So I'm going to get you to look at it a different way. If you had $500,000 in a 401k, you actually have a silent partner in that, to the tune of about 40% of it, and that silent partner is called the IRS, okay.

Yeah, I get it. 300 grand of that is your money. 200 grand is really the silent partners, you know, and I know he's silent for now, because people come into me and they just think I'm brilliant when I'm going over these rules, and this is, they don't necessarily like them, but they think, boy, you really know this stuff, and I said, this is all your stuff your silent partner would be teaching you if he wasn't a silent partner. He knows he's going to get his money sooner or later, even after you die.

So you thought that was funny on the break. Yeah, he's a silent partner because he realizes the longer he keeps silent, the more possible he can make, right, because if people take this huge income and then he gets his full, you know, a bigger amount of money, and then as tax rates go up, it's even scarier. So the thought of planning this just seems to make all kinds of sense, and planning it as soon as possible, you know, when it comes to either making Roth conversions when you're in your 50s. Well, yeah, and the only way you can do them in your 50s is if you got the money sitting somewhere else to pay the tax, because, you know, if you do a Roth conversion, let's say at 55, and you took $100,000 and you converted it, that's going to generate probably 30, $35,000 in income taxes that have to be paid to the feds and the state to do the $100,000 Roth conversion, and you can't take that out of the IRA money.

You're going to need to get that from somewhere else. Now, when you get past 59 and a half, you can actually pay the taxes out of the converted amount or before you convert it without having to pay a 10% penalty. Now, the bad side of that is you're only going to end up with 65 grand in the Roth IRA on the other side of the equation, but that is one way to deal with this problem is in little bites to start doing conversions up to the next tax bracket and do that over several years so that by the time you get to relying on this money and withdrawing it, you can be doing some of that from a tax-free account. Or if you never need to spend this money, if you're going to pass it on to the next generation, so people inherit Roth IRAs and they don't have to pay any taxes because the taxes probably didn't pay. Right, and also for those people even in their 30s or 40s that can be making their payments out of their income right now into a Roth rather than a traditional IRA. They can start at whatever point realizing that this is an oncoming situation that can be dealt with them but also you know obviously the closer we get to the destination, the more the planning becomes necessary. That's the ideal thing.

My young son who's 23, I got him started on Roth 401k contributions right from the beginning in his new job as an engineer and so and I have to resell him on that every three or four months. No really. We're talking about it and some genius at work has just told him that he's all wrong you know. Oh my goodness. And all I got to do is start telling them about some of my clients and the situation they're in and how much it's costing them to do all these conversions and I get him back to square one. I just have to tell him a different story.

So I'm not selling the same story over and over. So generally speaking is whether it was a good idea to put the money in their pre-tax or not, it doesn't really matter if you're in your 60s and you got a big hunk of pre-tax money, you're now going to have to pay tax on that money if you want to access any of it. The government's going to force you to start taking it at 72 and if you are successful in passing away with a whole bunch of it there, it's going to fall to your children.

So the planning that we do with a lot of people, first we want to make sure they're in agreement with all that and that strategy because some people aren't. But once they're in agreement that it calls for a strategy and we got to pay these taxes over time, then we have a whole bunch of different ways starting with one of them being Roth conversions, another one of them being cash value life insurance in order to make sure that we're in order to leave a tax-free inheritance. Now I personally love that one because, oh my goodness, you get almost the other difference in bang for your buck of what you put in back in the death benefit. So really the people inheriting the money not only get it tax-free but may get actually more than you put in if you bought the insurance and you were paying for it with the premiums along the way, right?

Oh absolutely, it's wonderful and you know if people receiving a check from a life insurance company, they I mean they start crying generally when I've delivered the check to them and it's just a wonderful thing. It's something their parents set up for them or their brother or sister or whoever set up for them way back when and it comes very soon after they pass away and it's entirely tax-free. And if you do a conversion to that, so in other words you're using the money that you're pulling out of the taxable IRA, you go ahead and pay the taxes and then you take the net and you put that into the life insurance and you do that for several years then you've built up what is really a tax-free savings account so if you need some of that money while you're alive you can access it and you can actually put it back if you get the money out you can put it back before you die and then or not I mean either way and then your kids either way are going to receive the death benefit totally tax-free and it's just it's a wonderful thing and if you want to force them to receive that money not in a big lump but over several years we can set up the beneficiary and a life insurance policy the same way where they would get so much a year for several years instead of getting a big huge check all at once. Yeah and then the really cool thing I mean I guess you know just looking at the payoff not looking at the fact that you'd be dead but in a way you get to be with Jesus but again if you if you take out a life insurance policy for $300,000 and you're making premiums on it you know the first you know in several years you don't have anywhere near $300,000 in that that you've invested in it and and so your your the beneficiaries get the whole 300 plus what you haven't paid yet you know out of the IRA right?

Yeah it's a well it's actually not in an IRA anymore but it originated the money originated from the IRA but the whole point of the whole thing is is to start paying these taxes while you're in your 60s little bits at a time relative to the whole size so that by the time you get to 72 you've got a smaller balance in the pre-tax IRA where you've converted all of it and then but most people don't convert all of it so you have a smaller balance and it makes a smaller RMD or minimum distribution and then you've got this other big account that the taxes have already been paid right and that's that's the concept. Well and while we're talking about life insurance you know it's always a good time to bring up the idea of beneficiaries on your IRA like you know that's something that whether it's a Roth IRA or a regular IRA that's one of the things that you always check first is do we have the right people on these designated right? Well it changes over time you know kids grow up they get married you know you have grandkids divorces happen deaths adoptions changes in circumstances businesses are sold I mean just all kinds of things happen and a lot of people don't think about changing all of their beneficiaries maybe they think about changing some but your IRA or your 401k any of this qualified money it all has a beneficiary on it and if you haven't updated that lately well if you come into me we're going to get all those out and make you read them even if you can tell me that they're all fine because when I I can't make anybody do anything but I insist on it and when they'll get them out you'd be surprised you'd be surprised when people have 10 different beneficiary designations where seven of them are fine and three of them needed to be changed and they thank me for that. Yeah so it's that's just one of the things before we got too far we don't have a whole lot more time left but I wanted to get that in because I just it would just break my heart to see anybody listening that you know oh my goodness those beneficiary designations take precedence over the will any day of the week. Oh yeah and and by the way this secure act simplified almost nothing it created a whole new class of beneficiary what's called the eligible designated beneficiaries and I'm not even going to get into that today on the radio just because it is too complicated but they created now classes of beneficiaries that includes the surviving spouse. Yeah but the good news is we have a whole video on that at Cardinal Advisors on YouTube and and you go over that really really well in the video for people that are interested in that information because these new tax laws are all the more reason that we need you know good wonderful counsel when it comes to these kind of things as we're coming into finishing well right Ox? Yeah so if you might inherit an IRA or you have an IRA that you're going to leave to somebody you might want to familiarize yourself with these rules or just give us a call and we'll we'll sit down and we'll see if we can help you out. That's wonderful as usual we've run out of time before we ran out of show but awesome stuff inheriting IRAs again is one of the seven worries on the Cardinal Guide website it's cardinalguide.com as well as Cardinal Advisors on YouTube check us out we're so grateful you listened to us today thank Hans. Thank you Hans.

Thank you and God bless you. Finishing well is a general discussion and education of the issues facing retirees. Cardinalguide.com, Cardinal Advisors and Hans Shile CFP sell insurance.

This show does not offer investment products or investment advice. We hope you enjoyed Finishing Well brought to you by cardinalguide.com. Visit cardinalguide.com for free downloads of this show or previous shows on topics such as social security, medicare, IRAs, long-term care, life insurance, investments, and taxes as well as Hans best-selling book The Complete Cardinal Guide to Planning for and Living in Retirement and The Workbook. Once again for dozens of free resources, past shows, or to get Hans book go to cardinalguide.com. If you have a question, comment, or suggestion for future shows click on the Finishing Well radio show on the website and send us a word. Once again that's cardinalguide.com. Cardinalguide.com. This is the Truth Network.