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2023 EP1014 | Financial Updates | Inheriting A Roth IRA? What You Need To Know

Planning Matters Radio / Peter Richon
The Truth Network Radio
October 14, 2023 10:00 am

2023 EP1014 | Financial Updates | Inheriting A Roth IRA? What You Need To Know

Planning Matters Radio / Peter Richon

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October 14, 2023 10:00 am

We talk a lot about the benefits of Roth accounts. A Roth IRA allows you to save for retirement with after-tax dollars. That means you pay taxes on your contributions now, but your withdrawals are tax free in retirement.

There are also several benefits to inheriting a Roth IRA, as Peter with Richon Planning explains to Erin Kennedy; the distributions are tax-free, and they won't affect your taxable income. However, with a few exceptions, you'll still have to drain the inherited account within 10 years.

If you are inheriting a Roth IRA, here's a quick action plan:

  1. Understand your beneficiary type (this will determine your distribution options)
  2. Consider your tax situation  
  3. Invest the money wisely 
  4. Get professional help

As with all inheritances, it's important to know how distributions will affect your taxes and how to best invest that money. If you'd like to talk through the benefits of a Roth account, or if you recently inherited a tax-free or tax-deferred retirement account, please reach out to Peter to talk through the best options specifically tailored to your financial situation and goals. Call him at (919) 300-5886 or visit

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We want you to plan for success. Welcome to Planning Matters Radio. Welcome back, everyone.

Peter, good to see you today. We are talking through a topic for anybody who is inheriting a Roth IRA. We're going to break down everything you need to know because it is complicated. A Roth IRA allows you to save for retirement with after tax dollars. That means you pay taxes on your contributions now, but your withdrawals are tax free in retirement. So what are the benefits of inheriting a Roth IRA?

Right. And we're not talking about the benefits during your own retirement, which are numerous, not only in non taxable withdrawals and income in retirement, but possible implications, improving Social Security and Medicare premiums. But when inheriting a retirement account, we have some some new rules to consider, and this specifically goes for next generation beneficiaries. But we now must liquidate all retirement accounts within 10 years with just a few exceptions that I'm sure we will get into. But that's that's the big implication is that you have to understand what kind of money you are inheriting and with different types of money.

There are different rules and requirements. So as of now, we will talk about the SECURE Act in a second. But it was passed in 2019 and now retirement accounts must be liquidated by that next generation within 10 years. OK, so let's get into some of the weeds here. We're going to talk about one drawback, which does center around the 10 year rule. What do we need to know about the 10 year rule?

Yeah, well, and I'm not sure if I answered the last question. The benefit with a Roth is that it's a tax free inheritance. Right. So that's that's a wonderful thing that you you've got this inheritance and you don't have to pay tax on it.

There are a couple other assets that can help you do that as well. But the 10 year rule states that 10 years after a next generation or non spousal beneficiary receives that inheritance. The account must be liquidated in full. 2019, the SECURE Act was passed and basically the government reconfirmed that your retirement accounts are for your retirement and are a particularly unfavorable wealth transferring generational wealth transferring tool. So it used to be that next generation and even third generation beneficiaries could continue to stretch out the tax deferral. That is no longer the case. Now, once it passes from the first generation to the second from the original owners to the next generation beneficiaries, the accounts must be liquidated 100 percent within 10 years, because even though the taxes have already been paid on that money, specifically if it is a Roth IRA, the government wants to get those dollars back in taxable circulation.

Right. And I'm sorry, Peter, I want to ask for one clarification, because you're saying you don't pay taxes on it, but you do pay income taxes, right? It will increase my taxable income when I'm distributing taking those distributions over 10 years, right? For my Roth IRA, no, that's the beauty of it, right?

So if you've got this inheritance, whereas otherwise in a regular IRA, you're making $100,000 and now you've got this inheritance and you're adding those dollars on top and paying additional taxes on those, you do have to make the distributions from the Roth IRA, but it does not add to the taxable income over that period of time that you liquidate the account. So that is one of the specific advantages. Yeah. Yeah. Okay. Thank you.

That was, it's so complicated. So, of course, again, this centers around beneficiaries. So let's tick through the different types of beneficiaries.

Right. So if you are a spouse, then this does not apply. We're not talking about spouses and assets transferring from spouse to spouse. You would be what is called an eligible designated beneficiary to where these rules do not apply, that it must be liquidated. You can continue to maintain the status of an IRA or a Roth over the course of spouses joint lifetimes. Even if one passes away, it passes to the other.

No problem. Another couple exceptions here is if a minor child is the beneficiary or if there is a special needs kind of situation of disability or a certain types of special needs trusts set up, we may be able to circumvent some of these requirements until certain benchmarks or age are obtained and then they go to kick in. But if you are a non eligible beneficiary, that means you are a second generation, a child receiving this, but an adult child. If you are leaving assets to churches, charities, organizations, the rules apply, must be liquidated within 10 years.

Right. OK, so again, Peter, as we're looking at this chart here, explain, please, again, just the difference in distribution rules for EDBs and NEDBs. Yeah, eligible designated beneficiaries are ones that can receive the funds and are not forced into that 10 year schedule for liquidation or in certain circumstances, any liquidation immediately at all. And those are spouses, those are minor children, those that may have a disability kind of situation, special needs. But non eligible designated beneficiaries are when I leave my Roth or my IRA to my children, adult children, they must liquidate that account within 10 years, regardless of need for the income. And there are a lot of beneficiaries that may not need the income right then.

And they're really in the eyes of the government. Doesn't matter because that retirement account was intended for the person who originally saved its retirement. And when it passes on, they want that money back into taxable circulation.

I'm going to go off script one more time, Peter. Why does it matter then if it's 10 years, if I'm not going to pay taxes on it? I'll take that money in 10 years.

It's not putting me in a higher tax bracket. Right. So what? I can go and invest it the way I want.

Granted. But when you take that distribution, it comes out of the umbrella of the Roth. Right. If the dollars remained in there forever and ever, then all growth forever and ever would be tax free. That's the beauty of the Roth. But when those dollars leave that account, they are now back in the taxable circulation. And even if you turn around, don't need the money and therefore invest it. Now, the growth on that investment is back to being taxable. Right.

The capital gains tax or if you're not holding for at least a year, it could be taxed as income again. Regardless, the government wants it out of that Roth protection because then the future growth thereafter can be taxed and will be taxed again. OK, thank you.

So now let's go through some tips to managing an inherited Roth IRA. And the first one is I think we've made it quite clear. You need to understand what kind of beneficiary you are. Right.

Yeah. Again, are you eligible or are you not eligible for for these exclusions against this 10 year liquidation requirement? Spouses, minor children who probably wouldn't understand the difference in this conversation at all. And that's why it's not a requirement for them. Special needs individuals, disability, chronically ill, certain types of trusts.

Again, those are the exceptions. But basically everybody else, including charities, nonprofits, churches and the like, they are required to liquidate it. They they are non eligible designated beneficiary. So understand your beneficiary type. And next, you need to understand your tax situation. Right. Yeah. And this goes back to our where are you in your own independent earnings career?

Right. Do you have a high level of taxable income? Will the distributions, whether it be a traditional IRA or a Roth IRA, are they going to impact the rest of your taxable situation? Roth distributions do not add anything to the bottom line of tax ability, but then you turn around and reinvest that money. And again, it becomes taxable. Is that going to impact anything in your tax situation? So you do need to be aware and probably a good idea to consider this carefully. Talk it through with a financial or tax professional. You're jumping ahead because that is one of my texts here.

But I want to get to first. You've got to invest that money wisely, as with any inherited money. Right. It's coming out of the protective shelter of a Roth IRA. And so now any growth that you achieve is going to be taxable again. How do you invest it? Do you invest it in long term kind of buy and hold type of positions where you can experience capital gains or a stepped up cost basis? Do you have other priorities maybe that you could handle with those dollars? How do you invest the residual net distributions? Absolutely should be carefully considered because it's got to leave that that Roth IRA protective shelter where all growth is tax free.

And as you mentioned, it really would be advisable to get professional help. This is incredibly complicated. Yeah.

Not to be too self-serving with this this comment and point, but it would be prudent and wise to consult with a financial investment and a tax professional when any large transaction is occurring, especially if receiving a large inheritance or an inheritance that could alter your tax situation. And then you can plan out, do you take it over the course of the 10 years you're required or do you wait all until the 10th year or do you just take it right away? Right. All or any combination of the above may be in consideration. And you want to plan that out to be as efficient as possible because whoever built and left that I doubt intended for the IRS to become the biggest beneficiary. And you want to make the best use of it possible and keep as much of it as possible. Absolutely. I'm really glad we get to talk this through.

Clearly, I needed some help with it. Peter, if anybody else has questions, what's the best way to reach you? Well, I'd love to get everybody started with Roth IRAs or using Roth IRAs. And ladies and gentlemen, right now, we've got one of the best windows of opportunity to take tax deferred retirement money and convert it over to Roth IRAs, manage the tax on that account balance and typically lower it substantially over just defaulting to the IRS's plan for you.

It's rarely ever in your best interest. So if you'd like to see those numbers, if you've got questions about this, if you've received an inheritance of any type, you know, there's always questions with money. And those are some of the big ones that I think people have today. So welcome to be in touch. Give me a call.

Nine one nine three zero zero five eight eight six nine one nine three zero zero five eight eight six. Whether saving, building or taking income distributions or leaving a legacy, all of all of the different types of accounts have different implications. And you need to understand them and work your way through them. You can also visit us online. Rich on Planning is what it looks like.

It's my last name, Peter Roshan Roshan. Planning dot com. All right, Peter, thanks so much for your help today. Always a pleasure.

Thank you. This has been Planning Matters Radio. The content of this radio show is provided for informational purposes only and is not a solicitation or recommendation of any investment strategy. You are encouraged to take investment tax or legal advice from an independent professional adviser. Any investment and or investment strategies mentioned involve risk, including the possible loss of principal advisory services offered through Brooks own capital management. A registered investment adviser fiduciary duty extends solely to investment advisory advice and does not extend to other activities such as insurance or broker dealer services. Advisory clients are charged a quarterly fee for assets under management while insurance products pay a commission, which may result in a conflict of interest regarding compensation.
Whisper: medium.en / 2023-10-19 12:57:37 / 2023-10-19 13:02:35 / 5

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