Morningstar Magazine - April/May 2018 - 44

Strategies

This strategy will only make sense if a surviving
spouse has an imminent need for all of
the IRA assets. It's the most punitive from a tax
standpoint, in that the inheritor will pay
ordinary income taxes on the whole amount
at that time.
If the Spouse of the Deceased Inherits a Roth IRA
Option 1

Roll the Money Into Your Client's Own IRA.
This is the most beneficial move, tax-wise, for
inherited IRA assets. It's appropriate for
spouses who don't need the assets in the IRA and
would instead like to stretch out the taxsaving benefits of the Roth over their own lifetimes
or even beyond, if the inheritor earmarks
the assets for his or her heirs. Not only would the
assets not be taxed upon withdrawal, assuming
the five-year requirement was met and the
surviving spouse is older than age 59 1/2, but
mandatory distributions wouldn't apply. (Roth IRA
assets, in contrast with traditional IRA assets,
don't entail RMDs.) This isn't a good option
for surviving spouses who are younger than 59 1/2,
in that a 10% penalty would apply.
Option 2

Transfer the Money to an Inherited IRA.
Setting up an inherited IRA for a Roth IRA
spousal beneficiary will generally make less sense
than rolling it over to the surviving spouse's
own Roth IRA, because RMDs will apply to the
inherited IRA. The inherited IRA assets won't
be taxed upon withdrawal, either. But rolling over
the inherited Roth IRA assets to the spouse's
own Roth IRA provides more of an opportunity for
the tax savings to be stretched over the inheritor's
lifetime and possibly passed on to heirs.
On the other hand, an inherited IRA can make
sense if a spouse has an imminent need for
the assets in the IRA but hasn't yet attained age
59 1/2; withdrawals from the inherited IRA
wouldn't be subject to the 10% penalty on early
withdrawals. As with an inherited IRA composed
of traditional IRA assets, a surviving spouse
can use a few different methods for calculating
RMDs on a Roth account, discussed here.

Morningstar April/May 2018

Option 3

Take the Money Out of the IRA in a Lump Sum.
Anyone who takes a lump-sum distribution
from a Roth IRA won't owe taxes, assuming the
assets have been in the account for five
years after the contribution. However, this strategy
is only advisable when there's an imminent
financial need, because taking the money out of
the Roth means the assets will no longer benefit
from tax-free compounding.
If Someone Other Than the Spouse of the
Deceased Inherits a Traditional IRA
Option 1

Roll the Money Into an Inherited IRA.
The options are fewer-and the tax-saving
opportunities fewer-for nonspouse beneficiaries.
Specifically, nonspouse beneficiaries can't roll
inherited IRA assets into their own accounts.
Instead, if they want to maintain the assets inside
of an IRA they must transfer the money to an
inherited IRA.
In the case of an inherited IRA where the
deceased was younger than 70 1/2 and
hadn't begun taking RMDs, the beneficiary must
start taking RMDs based on his or her own
life expectancy by Dec. 31 in the year after the year
in which the deceased passed away. Alternatively,
the beneficiary could delay distributions,
as long as he or she withdraws all of the assets
in the IRA within five years of the deceased
person's death.
If the deceased had begun taking RMDs,
beneficiaries must take distributions from an
inherited IRA account during the beneficiary's own
lifetime. RMDs must begin by Dec. 31 after
the year of the deceased person's death. If the
deceased did not take the RMD for the
year in which he or she died, distributions must be
made by year-end.
Option 2

Take the Money Out in a Lump Sum.
This strategy will only make sense if the
beneficiary has an imminent need for the IRA

assets. It's the most punitive from a tax standpoint,
however, in that the inheritor will pay ordinary
income taxes on the whole amount at that time.
If Someone Other Than the Spouse of the
Deceased Inherits a Roth IRA
Option 1

Roll the Money Into an Inherited Roth IRA.
Roth IRA assets inherited by a nonspouse
can be transferred into an inherited IRA. RMDs
apply to all other Roth IRA assets inherited
by nonspouse beneficiaries: The beneficiary must
receive the entire distribution by Dec. 31
of the fifth year after the year of the owner's death
or elect to receive distributions during the
beneficiary's own life expectancy.
Option 2

Take the Money Out in a Lump Sum.
Anyone who takes a lump-sum distribution
from a Roth IRA won't owe taxes, assuming the
assets have been in the account for five
years after the contribution. However, this strategy
is only advisable when there's an imminent
financial need, because taking the money out
of the Roth means that the assets will no longer
benefit from tax-free compounding. K
Christine Benz is director of personal finance
with Morningstar.

Table of Contents for the Digital Edition of Morningstar Magazine - April/May 2018