RMDs for Spousal Beneficiary

Make the Right Choice as a Spousal Beneficiary

When your spouse passes away and you are the sole beneficiary of their retirement account, you will have several options for how to handle RMDs, and they vary depending on the birthday of your spouse. Some options will work better in certain situations. Selecting a poor option for your specific scenario may result in missed opportunity for tax deferral, or cause you to pay higher taxes than anticipated. Even penalties may apply if some steps are not done properly. 

The information regarding this topic can be found on Form 590-B on the IRS website, www.irs.gov. If you are inheriting a Roth account, visit our section on RMDs for Roth Accounts to learn more about this topic, as this section pertains to pre-tax retirement accounts such as traditional IRAs, SEPs, Simple IRAs and various workplace programs. For the options discussed below we will use inheriting a traditional IRA as an example. Please know there can even be differences between the various pre-tax accounts. 

You may Rollover the Account

If you inherit an IRA from a spouse, you can treat the account as your own, and make a transaction called a rollover.  This is one of the first options that you may consider, and it can be done regardless of the age of your spouse when they passed away. If you do not have an IRA account to receive a rollover transaction, one can be set up for you. Once the rollover from your spouse’s IRA to your own IRA is complete, it cannot be undone. If you are younger than 59 ½, the funds may be subject to early withdrawal penalties. Keep this in mind if you will need the funds to live on, because another option may be better. 

Rolling over the funds may be a good option for you, depending on your cash flow needs, and tax strategy. Once the funds are in your own account, you will need to follow the rules that apply to your personal RMD schedule. If you prefer not to open a new account, then you may consider the Lump Sum Method.

Consider the Lump Sum Method

The Lump Sum Method allows you take all of the money out of the account, pay taxes on it like you would your personal income, and use the funds however you like. You can do this before the age of 59 ½ penalty free. Depending on the amount, this method may put you into a higher tax bracket, potentially increasing the amount of taxes you owe. The lump sum method is a viable option for withdrawing the funds, but If you would like to defer the tax for a longer period of time, you may want to consider the Lifetime Expectancy Method.

The Lifetime Expectancy Method is an Option

The Lifetime Expectancy Method allows you to wait to take RMDs until your spouse would have turned 70 ½. When using this option, you open a new Inherited/Beneficiary IRA in your name and transfer the funds into the account. This account now belongs to you, but the descendant will be referenced on the account. You can also begin taking the RMDs the year after the death of the original owner. It all depends on your specific situation. 

When setting up an Inherited/Beneficiary IRA, if the original owner had already begun RMDs, then you cannot delay RMDS. You must begin taking the annual RMD using your life expectancy, or using your spouse’s life expectancy, depending on which one is more beneficial to you. The RMD must be started no later than December 31st of the year following the original account holder’s death.

The Five Year Rule

The Five Year Rule option is available to you if your spouse passed away prior to the age of 70-½. With this option you transfer the funds to an inherited IRA and then have up to five years to withdraw all of the funds. All withdrawals must be taken by December 31, of the year that marks the 5th anniversary of the original owner’s death, and the funds are received as taxable income. There is no penalty if you take the funds before age 59 ½. However, this approach may create some tax challenges because of the increased income taken within a shorter time frame.

If Your Spouse was 70-½ or Older

In all cases, if your spouse was age 70 ½ or older when they passed away, determine if they took their RMD for the calendar year that they passed. If this step was not done it must be completed by December 31st for that calendar year.

Some Exceptions to The Above

If there is more than ten years difference between you and your spouse, or if you were not the sole beneficiary, then different rules apply to taking the RMD on the inherited account. If this is the case, share this with your financial advisor.

Contact Us for Help with Your RMDs

Understanding the rules and processes for rolling over or transferring retirement accounts, and structuring an appropriate RMD strategy, can be complicated and somewhat confusing. The option you select will depend on your specific needs. As advisors we help individuals transition through this challenging process. Contact us today to learn more.