Understanding Inherited IRA Rules: A Guide for Pre-2020 Beneficiaries

Perspective Matters

KEY TAKEWAYS

• The date of death matters, not when you set up the account. If you inherited an IRA from someone who died in 2019 or earlier, you follow pre-SECURE Act rules—even if you didn't establish your inherited IRA account until 2020 or later. 

• The Required Beginning Date (RBD) determines your options. Whether the original IRA owner died before or after their RBD (April 1st of the year after they turned 70½) significantly impacts which distribution methods are available to you and when you must start taking withdrawals. 

• Surviving spouses have the most flexibility. You can choose between treating the IRA as your own (spousal rollover), stretching distributions over your lifetime, or using the five-year rule—depending on when your spouse died relative to their RBD. 

• Multiple beneficiaries must act quickly. If you're sharing an inherited IRA with siblings or other beneficiaries, you must split the account into separate inherited IRAs by December 31st of the year following the owner's death, or everyone will be forced to use the oldest beneficiary's life expectancy. 

• Mistakes are expensive. Taking the wrong distribution amount or missing a required deadline can result in penalties of up to 25% of what you should have withdrawn—plus the taxes you'll owe on the distribution itself. 

If you inherited an IRA from a parent or loved one who died before 2020, you might feel overwhelmed by the rules governing your inherited account. You're not alone. While there's been plenty of attention on the SECURE Act changes that took effect in 2020, many people are still managing IRAs they inherited under the old rules—and those rules are quite different. 

Here's what makes this particularly confusing: if you inherited an IRA from someone who died in 2019 or earlier, you follow one set of rules. But if you later pass away and your children inherit that same IRA from you, they'll be subject to the newer 10-year rule under the SECURE Act. It's a complex situation, and understanding your options is crucial to making the most of your inheritance while avoiding costly mistakes. 

Let me walk you through the options available to you based on when and how you inherited your IRA.

WHY THE REQUIRED BEGINNING DATE MATTERS

Before we dive into your options, you need to understand one critical concept: the Required Beginning Date, or RBD. For anyone who died in 2019 or earlier, their RBD was April 1st of the year following the year they turned 70½. 

Here's why this matters: the rules for beneficiaries depend on whether the original IRA owner died before or after their RBD—not simply whether they had turned 70½. 

Let me give you an example. Suppose your father turned 70½ in July 2018. His RBD would be April 1, 2019. If he passed away in October 2018—after turning 70½ but before his RBD—the "before RBD" rules would apply to you as his beneficiary, not the "after RBD" rules. This distinction can significantly impact your required withdrawals and tax planning. 

OPTIONS FOR SURVING SPOUSES

If you inherited an IRA from your spouse who died in 2019 or earlier, you have the most flexibility. Your options depend on whether your spouse had reached their RBD. 

When Your Spouse Died Before Their RBD (or had a Roth IRA): 

You have three choices: 

Option 1: Spousal Rollover You can treat the IRA as your own. Your spouse's age and date of birth no longer matter—it's now based on your age. This is often the simplest option. For example, let's say your 68-year-old husband passed away in 2018, and you're 65. If you do a spousal rollover, you won't need to take Required Minimum Distributions (RMDs) until you reach your own RBD. This gives the money more time to grow tax-deferred. 

Option 2: Stretch IRA (Inherited IRA) You can keep the account as an inherited IRA and take RMDs each year based on your life expectancy. Payments must begin by December 31st of either the year your spouse would have turned 70½, or the year after their death—whichever is later. 

This option might make sense if you're under age 59½ and need access to the money. Why? Normally, withdrawing from your own IRA before 59½ triggers a 10% early withdrawal penalty. But with an inherited IRA, you can take distributions without that penalty. 

Option 3: The Five-Year Rule You set up an inherited IRA, but you don't have to take annual distributions. Instead, you must empty the entire account by December 31st of the fifth year after your spouse's death. While you have no required annual withdrawals, you must plan carefully to avoid a massive tax bill in year five. 

When Your Spouse Died On or After Their RBD: 

First, check whether your spouse took their RMD for the year they died. If not, you must take it by December 31st of that year. 

After that, you have two choices: 

Spousal Rollover: Same as above—treat it as your own. 

Stretch IRA: This works differently than if your spouse died before their RBD. Your RMDs must start by December 31st of the year after your spouse's death. You can calculate your RMDs using either your own recalculated life expectancy each year, or using what's called the "ghost life rule"—which bases calculations on your deceased spouse's non-recalculated life expectancy. The ghost life rule can sometimes result in smaller required distributions, allowing more money to remain in the account longer. 

OPTIONS FOR NON-SPOUSE BENEFICIARIES

If you're an adult child or other non-spouse beneficiary who inherited an IRA from someone who died in 2019 or earlier, your choices are more limited. 

If the Original Owner Died Before Their RBD: 

You can choose between the Stretch IRA option or the Five-Year Rule. 

With a Stretch IRA, you must start taking RMDs by December 31st of the year after the owner's death, based on your life expectancy. Here's how it works: you look up your age on the IRS Single Life Expectancy table in the year following the death, then reduce that number by one for each subsequent year. 

Let's say your mother passed away in 2019 at age 68 (before her RBD.) In 2020, you turn 46, so you look up your life expectancy on the 2020 Single Life Table and see your life expectancy is 37.9 years. You divide the account balance by 37.9 to get your RMD for 2020. In 2021, you use 36.9 (37.9 minus 1) and so on. This lets you "stretch" distributions - and tax payments - over decades.

If the Original Owner Died On or After Their RBD: 

If the owner hadn't taken their RMD for the year of death, you must take it by December 31st of that year. Then you can set up a Stretch IRA with RMDs beginning by December 31st of the following year. You'll calculate RMDs using either your own non-recalculated life expectancy or the ghost life rule, whichever provides more favorable distributions. 

Important Note for Multiple Beneficiaries: 

If your parent named multiple children as beneficiaries, you must establish separate inherited IRA accounts for each beneficiary by December 31st of the year following the account owner's death. If you miss this deadline, all beneficiaries will be forced to use the oldest beneficiary's life expectancy for calculating RMDs—potentially requiring larger withdrawals and higher taxes for younger beneficiaries. 

For example, if you're 40 and your brother is 50, and you don't split the account by the deadline, both of you would have to use the 50-year-old's shorter life expectancy. That means larger required withdrawals and less time for tax-deferred growth.

SPECIAL SITUATIONS: NON-PERSON BENEFICIARIES

Sometimes an estate, charity, or non-qualifying trust is named as beneficiary. If the IRA owner died before their RBD, the Five-Year Rule applies. If they died on or after their RBD, the beneficiary must take the owner's RMD if it wasn't already taken, then use the ghost life rule for ongoing distributions. 

WHY THIS MATTERS-AND WHY YOU NEED EXPERT GUIDANCE

Here's the bottom line: taking the wrong amount—or taking it at the wrong time—can result in penalties of up to 25% of what you should have withdrawn. That's money lost forever. 

The rules I've outlined here represent just the framework. Your specific situation might involve additional factors: other income sources, tax bracket considerations, state taxes, estate planning goals, and how your inherited IRA fits into your overall financial plan. 

While information about saving for retirement is everywhere, clear guidance on inherited IRA distributions is much harder to find. And the stakes are high—a mistake could cost you thousands of dollars in unnecessary taxes and penalties. 

FINDING THE RIGHT PROFESSIONAL TO HELP YOU

If you inherited an IRA from someone who died in 2019 or earlier, it's worth seeking guidance from someone with specialized expertise in IRA distribution rules. Look for a financial advisor who is both a CERTIFIED FINANCIAL PLANNER® professional and a member of Ed Slott's Master Elite Advisor Group. This combination of credentials means you're working with someone who has both comprehensive financial planning training and advanced, specialized knowledge of the complex IRS distribution rules that govern inherited IRAs. 

As it happens, I hold both of these credentials. I can help you understand your specific situation, avoid costly mistakes, and create a withdrawal strategy that aligns with your overall financial goals. 

Ready to Get Started? 

Schedule an Introductory Meeting here to discuss your inherited IRA and get clarity on your options. There's no obligation—just an opportunity to get answers to your questions and see if working together makes sense for you. 

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Neither Prism Planning and Solutions Group nor Insight Advisors provides tax or legal advice, and nothing in this communication should be treated as such. This communication should not be interpreted as a recommendation for a specific investment, legal or tax-planning strategy. We provide this material for informational purposes only. We have made every attempt to verify that the information contained in this communication is accurate as of the date published but make no warranties. Before making any decisions related to your own tax, legal and/or investment situation you should consult the appropriate professionals.    

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