I Inherited an IRA From My Spouse - What Are My Choices?

Here Are The Rules Around IRAs Inherited From a Spouse

471393953inheritedirafromspouse.jpg
Inherited an IRA from a Spouse. GlobalStock/E+/GettyImages

If you have recently lost a spouse, my deepest sympathies. Adjusting to an altered life while dealing with all the financial decisions can be overwhelming. If your spouse had an IRA, one of the financial decisions you will have to make is deciding how to treat your inherited IRA. (If you inherited an IRA from someone other than a spouse a different set of rules apply so please see Inherited IRA from a Non Spouse.)

There are two primary types of IRAs you can inherit; a Traditional IRA or a Roth IRA. This article focuses on the rules around inheriting a Traditional IRA from a spouse.

I Inherited a Traditional IRA from My Spouse

If you inherit an IRA from your spouse, there are three primary choices you have as to how to treat the IRA. Each is explained below.

1. You can always cash in the IRA.

When you cash in an inherited IRA you will pay income taxes on the amount withdrawn, but no penalty taxes, regardless of your age. (Normally IRA distributions prior to age 59 ½ are subject to a 10% early IRA withdrawal penalty tax.)

Despite the fact that no penalty taxes apply this is often not your best choice. You have to consider your tax bracket. Cashing in a large IRA could mean anywhere from 25% – 39.6% of it goes right to federal taxes. State income taxes will apply too. For these reasons, often you are best off only withdrawing money out as needed instead of cashing in an entire inherited IRA.

Drawing money out as needed means you will treat your inherited IRA using either option 2 or 3 below.

2. You can treat the IRA as your own.

You can choose to treat the IRA as if it was your own IRA by either naming yourself as the account owner or by rolling the inherited IRA into your own IRA account.

This can often be your best choice if you are over age 59 ½ and/or if your spouse was older than you, and you want to delay required minimum distributions (RMDs) as long as possible.

If you choose to treat the IRA as your own your future RMDs will be determined based on your age as the account owner starting with the year you become the owner.

Example: Your spouse was 72, you are 65. You spouse had started taking their RMDs at their age 70 ½. You elect to treat the inherited IRA as your own. Now you do not have to take annual RMDs until you reach age 70 ½. The advantage to this is continued tax deferral. Keep in mind, if you are over age 59 ½, you can still take withdrawals if they are needed and no penalty tax will apply. It’s just you won’t be required to take withdrawals until you reach age 70 ½.

Caution: If you are not yet 59 ½, and you choose to treat the IRA as your own, now future distributions will be subject to a 10% penalty tax. If you have several years to go before reaching age 59 ½ option 3 below may be a better choice for you.

3. You can treat yourself as the beneficiary of the IRA.

If you choose to treat yourself as the beneficiary of the IRA, different rules apply than if you choose to treat the inherited IRA as your own.

This may be your best choice if you are under age 59 ½, and/or if you are older than your spouse.

Here’s how it works: when you set the account up so you are the beneficiary of the inherited IRA now your required minimum distributions will be determined by the age of your spouse at their death. Two possibilities are outlined below.

1. If your spouse died after their RMDs started (They were over age 70 ½.)

If your spouse passed after their RMDs started (meaning they were age 70 ½ or older) you have to take distributions based on the longer of:

  • Your deceased spouse’s life expectancy based on their previous RMD schedule
  • Your own single life expectancy

2. If your spouse died before their RMDs started

If your spouse passed before their RMDs started you can defer distributions until their RMDs would have started and then take distributions over your single life expectancy.

If you are not yet 59 ½, the advantage to this choice is that you can take withdrawals if needed and no penalty tax will apply. If you are older than your spouse, the advantage to this option is that you can defer the RMDs until your spouse would have been required to take them, which will be a later date than your own age 70 ½.

Nothing in this article is intended to be specific advice. As a spouse who inherits an IRA it is important to carefully weigh out your options based on your cash flow needs and tax situation to determine which way you should treat your inherited IRA.

For detailed IRA regulations see IRS page IRS What if You Inherit an IRA?