Unplug Grandma’s Life Support…Quick! Inherited IRA rules changing?

Why You Might Have the Awful Hope That Grandma Dies This Year.

According to this Wall Street Journal article, Congress is toying with the idea of getting rid of (or at least seriously modifying) Inherited IRAs.

Here’s why you should care: getting an inherited IRA is like winning the lifetime income lottery.
 

What is an Inherited IRA?

 

An inherited IRA is just what it sounds like – it’s an IRA that you didn’t start, i.e., you inherited it.  In most cases, when someone passes away, they’ll leave retirement accounts to their spouse, but sometimes those spouses are pre-deceased. In this case IRA assets fall down to the next (or sometimes the third) generation.

When you inherit a spouse’s IRA, the IRS allows you to convert it to your own, delaying any and all taxes until at least age 70 ½ (assuming you don’t remove the money to spend).  If your spouse is substantially younger than you, couples are allowed to treat it as an inherited IRA for tax purposes.
 

What are the Current Benefits of an Inherited IRA?

 

The major benefit is the ability for non-spouse beneficiaries to distribute those taxable dollars over the lifetime of the beneficiary.

Grandma is 68 and goes to what crazy uncle Jim called “that big tax shelter in the sky,” but leaves her $500,000 IRA to her 4 year old grandson.  Because the distribution is based on his life expectancy…around 80 years or so… if structured correctly it would provide him income for the rest of his life.

Apparently, the IRS and Congress think it’s too long to wait another 80 years or so to wring all the tax money from Granny’s IRA, so thye’re thinking about changing the law to require distributions from an  inherited IRA within 5 years of the original  account holder’s death.

Yikes.

That’s a change.

Thankfully, this isn’t anywhere near the President’s desk yet, but I wanted to put it on your radar screen…in case…you know…someone has a little “slip and fall.”

Don’t quote me later.

- TheOtherGuy

 

 

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Author: TheOtherGuy

Full-time financial advisor, part-time blogger, part-time podcaster. Hangs out in Joe's basement a lot. 2 Kids. Despises snow.

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16 Comments

  1. A stealth tax which would never show up as a tax? You figure the odds on it making it through somewhere are pretty high. Just like my cynical thoughts on the provisions of SOPA/PIPA – they will show up eventually, either through HR 1981 or tacked onto some other bill.

    How about a Roth? Still looking the same?
    PK recently posted..President Obama Is a Bigger Tax Cutter Than George BushMy Profile

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    • Right, PK! Like social agenda items tacked onto a highway bill….

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  2. Nobody really wants to raise taxes on the “middle” or semi-upper class, so the government is going to continue to find ways to increase taxes with most people not knowing.

    This rule change. Getting rid of the mortgage interest deduction…talks about not allowing charitable contributions to be deducted.

    It’s all ridiculous. The fact is that taxes will go up one way or another. It’s just how they package it.
    WorkSaveLive recently posted..Recipe: Black Bean, Rice, and Corn BurritosMy Profile

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    • Jason, it reminds me of the boiling frog analogy. Nobody feels a thing as the water gets hotter and hotter.

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    • You’re correct in one way, SB, but this is a different animal. Here’s what I mean:

      People DO have a $5M unified tax credit exemption for estate and gift taxes. That covers any estate tax liability, and as you’ve said, passes items “tax free” (as far as estate tax goes).

      However, this is an INCOME tax, which is a different beast. Money inside an IRA is taxed when it leaves the tax shelter.

      Estates suffer a DOUBLE whammy because they’re hit with estate and income tax. In fact, the funny part? Estate taxes are levied on the gross amount, before income taxes are applied, allowing the government to tax money that’s already being paid to them to cover other taxes.

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    • Well, Hunter, therein lies part of the issue: If they’re going to sneak in and take away this little break – how long before they realize the Roth concept is flawed too and take that away? Plus, one of the benefits of leaving a Roth IRA to a beneficiary is that money continues to grow tax-free forever; so even though they require RMDs from Roth IRAs for beneficiaries, the RMD amount is so small – the Roth can be left growing tax free for a long time; if they shorten that to 5 years, then that money will be out of that tax-shelter much sooner.

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  3. Hmmm, a fall could be arranged…

    Great info — I’ll be sure to stay away from estates and set up an inherited IRA.

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    • It’ll be our secret, Christa!

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  4. Now that’s some grade a horse crap. 5 years! That’s ridiculous! I am willing to bet the ROTH IRA tax free gains will come underfire next.
    YFS recently posted..Are More Bedrooms Better?My Profile

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