I’ve been opening IRA retirement accounts for clients for nearly 20 years and the estate planning and choice of beneficiaries is pretty rote: name your spouse as your Primary Beneficiary and your child or children as Contingent Beneficiary(ies). Nothing wrong with that and, in fact, I’ve set my own accounts up that way, but it pays off to do a “deeper dive” when you’re speaking to your financial advisor about alternative ways to pass your assets on to your spouse if you pre-decease them. A spouse alone has an option of how to inherit your deferred-tax IRA account: either as the beneficiary of an inherited IRA account or they can choose to treat the deceased spouse’s account as their own. There are strategies for each and reasons to choose one over the other, so let’s have a conversation so you can best “get your house in order”.
When doing IRA planning, there are several considerations you should bring to the table: the age difference between spouses, the health and life expectancy of both spouses, individual other assets owned by each spouse and expectations of each spouse on whether they expect to be working or otherwise wouldn’t need an inflow of funds after the death of the other spouse. Please remember that under normal circumstances, IRA distributions can’t be taken out before age 59-1/2 without a 10% penalty on top of ordinary taxes and required minimum distributions (RMDs) are required the year an account owner turns 72.
In most cases, spouses will be within a few years of each other in age and they look forward to similar life expectances. In 2022, that looks like life expectancies in the late 60s or older. Actuarial tables generally expect women to outlive men. If all of this sounds like your circumstances, when one spouse passes, the other spouse should claim the deceased spouse’s IRA as their own and set up their own Traditional IRA with the resulting funds or roll the funds into their own already established IRA. If the surviving spouse is over 59-1/2 and needs funds to pay expenses, they can take distributions without a penalty. If they will continue working or otherwise won’t need distributions, they can allow the assets to continue growing tax-deferred until RMDs begin at age 72.
If there is a large age differential between spouses, things become a little trickier. Let’s pretend Susan, still working and age 52, is married to Bob, recently retired due to a heart condition and 65 years old. If Bob passes this year, it might make the most sense for Susan to choose to take Bob’s IRA as a beneficiary of an inherited IRA. If she is distraught and wants to quit work to spend more time with her and Bob’s grown children, she can begin taking distributions from the inherited IRA before 59-1/2 and not be subject to the 10% penalty. On the other hand, if she chooses to continue working or otherwise doesn’t need extra money, Susan can allow the funds to grow tax-deferred until the date on which Bob would have turned 72 and been forced to take an RMD. Most of the time, in a case such as this, the best strategy is to set up a beneficiary IRA until Susan turns 59-1/2 and then do a spousal rollover and make the account her own Traditional IRA. This will maximize the time that the account can grow tax-deferred and allow flexibility if Susan should need to take a distribution.
Let’s change the circumstances a bit and say that Bob was 73 to Susan’s 52. If Susan doesn’t need distributions, she should immediately do a spousal rollover to make the IRA her own so she won’t be forced to take Bob’s RMDs.
If we change things up and Susan dies first, Bob has some choices. If he doesn’t need distributions from Susan’s IRA, he can claim beneficiary status in an inherited IRA and then allow Susan’s account to grow tax-deferred until she would have turned 72.
Is estate planning “top of mind” for you? I would love to invite you to my office for a cup of coffee to explore how best to provide for your family and your concerns. Please call me at 563-949-4705 or email me at email@example.com.
Securities offered through J.W. Cole Financial, Inc. (JWC) Member FINRA/SIPC. Advisory services offered through J.W. Cole Advisor, Inc. (JWCA). Huiskamp Collins Investments, LLC and JWC/JWCA are unaffiliated entities.