If have been conscientious about saving for retirement through your employers’ 401(k) plans, you likely moved that money into rollover individual retirement accounts (IRAs) when you left those employers. Alternatively (or in addition to this), you may have established a traditional IRA and made the maximum contribution to it every year.
However you used IRAs to build your retirement savings, you need to determine how your IRAs fit into your estate planning goals. Actually, when you designated beneficiaries for those accounts, that was part of your estate planning.
As you develop your estate plan, it’s wise to revisit those beneficiary designations and make sure they still reflect your wishes. You don’t have to include that information in your estate plan documents. If you do, remember that the funds will be distributed to the beneficiary(ies) listed on the account even if your estate plan says something else.
What is the SECURE Act?
When reviewing your designated IRA beneficiaries, it’s crucial to keep in mind what tax obligations these beneficiaries will inherit. That changed in 2020 when the Setting Every Community Up for Retirement Enhancement (SECURE) Act took effect.
Prior to that law, the amount of time a beneficiary had to take full distribution of their IRA inheritance was based on their life expectancy. That’s called the “estimated lifetime distribution rule.” If your 21-year-old grandchild inherited an IRA worth $100,000, for example, they’d have plenty of time to take distributions (which count as taxable income). That means they wouldn’t have to worry about their income tax obligations increasing significantly in any given year.
Under the SECURE Act, only those considered “eligible designated beneficiaries” are subject to the estimated lifetime distribution rule. All others have just ten years to take full distribution on their inherited IRA funds.
Who are eligible designated beneficiaries?
Eligible designated beneficiaries don’t have to abide by that rule because it’s presumed they’ll need the money throughout their lifetime for financial support. The people in that category are:
- Surviving spouses
- Non-spouses less than 10 years younger than the deceased
- Disabled or chronically ill beneficiaries
- Minor children (under 18)
Note that once a child turns 18, they’re no longer considered an eligible designated beneficiary.
It’s crucial to understand how the SECURE Act applies to any potential beneficiaries before you name them. For younger family members, it may be better to leave them non-IRA assets. With sound legal guidance, you can better determine how to make the inheritances you leave a blessing rather than a curse.