Follow the right process after inheriting an IRA

No one wants to come into money through the death of a loved one, but many parents and family members choose to leave their retirement accounts to relatives as part of their estate. When a person inherits an individual retirement account from a relative other than a spouse, there are specific tax rules that they must follow when deciding how to handle the funds to avoid the ire of the Internal Revenue Service.

One of the most common, and costly, mistakes that an individual can make after inheriting an IRA from a family member is rolling it over to a new custodian, according to Fox Business. Many people are aware that they have flexibility with their own IRA accounts, and may take the money out of their own account and re-deposit it with a new bank as long as the transfer takes place within 60 days. This is not the case with an inherited IRA.

These funds may only be moved in a "trustee-to-trustee" transfer. This means that the money must never be removed and given to the beneficiary in the form of a check, even if the individual immediately deposits the amount in a new IRA within 60 days. In a trustee-to-trustee transfer, the funds must move directly from the initial custodian to the new custodian.

Failing to follow these rules may trigger income taxes and other penalties. For this reason, it's imperative to work with a tax preparer after inheriting retirement accounts from a loved one as the rules are strict and complex.

Other rules for inheriting an IRA
IRAs that are inherited from someone other than a spouse must also be retitled to reflect that the deceased individual is still the owner and balance is an inheritance. This may include titling it as "Mom's IRA, son Robert is beneficiary."

In addition, heirs must begin taking required minimum distributions from the account by December 31 of the year after they inherited the account. However, beneficiaries may draw these out over their expected life spans. This means that the younger an individual is, the smaller the distribution they may take. It is important for individuals to follow the RMD rule to avoid a steep IRS penalty - 50 percent of the amount that was supposed to be withdrawn.

Trying to decipher tax rules relating to IRAs after losing a loved one can be difficult. To avoid potential mistakes and financial consequences, enlist the help of a tax professional to ensure the process is completed smoothly.

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Every effort has been taken to provide the most accurate and honest analysis of the tax information provided in this blog. Please use your discretion before making any decisions based on the information provided. This blog is not intended to be a substitute for seeking professional tax advice based on your individual needs.

About Liberty Tax Service 
Liberty Tax Service is the fastest -growing retail tax preparation company in the industry’s history.  Founded in 1997 by CEO John T. Hewitt, a pioneer in the tax industry, Liberty Tax Service has prepared over 8,000,000 individual income tax returns.  With 42 years of tax industry experience, Hewitt stands as the most experienced CEO in the tax preparation business, having also founded Jackson Hewitt Tax Service.   

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Posted To: Tax Ranger's Blog By: Tax Ranger On: Wednesday, October 10, 2012
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