August 17, 2017

Key Rules for Non-Spouse Beneficiaries

By: Denise Appleby,CISP, CRC, CRPS, CRSP, APA.

Written for the financial professional

Clients who inherit assets held in a tax deferred retirement account, such as an IRA or 401(k), are eligible for the same tax-deferred treatment on those amounts that were available to the account owners. This means that they will owe income tax only on taxable amounts that they withdraw from the account.

Bear in mind however, that tax-deferral is not indefinite, as these beneficiaries must take required minimum distributions (RMD) from the account.

The RMD amount for a beneficiary is determined by several factors, including age, and the distribution option that applies to the inherited account.

Failure to follow the rules that apply to inherited accounts can result in loss of tax deferred status and IRS assessed penalties.

The following is a high level overview of some of the rules that beneficiaries must follow to help preserve the tax-deferred status of inherited retirement account, and avoid penalties.

Understand Distribution Options

The beneficiary distribution options depend on whether the retirement account owner died before the required beginning date (RBD). Generally, the RBD is April 1 of the year that follows the year in which the retirement account owner reached age 70½.

For example, if a retirement account owner reaches age 70½ in 2016, her RBD is April 1, 2017.

Death before the required beginning date

If the retirement account owner died before the RBD, the beneficiary options are:

·The five-year rule. Under the five-year rule, distributions are optional until December 31 of the 5th year that follows the year in which the retirement account owner died. By then, the entire balance must be withdrawn from the account.

·The life expectancy rule. Under the life expectancy rule, the amount that must be withdrawn for a year is based on the beneficiary’s age in that year, and the account value as of December 31 of the previous year. Life expectancy distributions must begin by December 31 of the year that follows the year in which the retirement account owner died.

A beneficiary can always take more than the RMD amount. The key is not to take less. Because if a beneficiary takes less RMD than he is required to, he will owe the IRS a 50% access accumulation penalty on the RMD shortfall.

For instance, assume that a beneficiary is required to withdraw $10,000 by the end of the year, and he withdraws only $5,000. He will owe the IRS and excess accumulation penalty of $2,500 which is 50% of the $5,000 that he did not withdraw by the deadline.

Caution: It is very important to check the terms of the agreement that governs the inherited retirement account to determine if the beneficiary is subject to the five-year rule or the life expectancy rule. In some cases, the beneficiary might be required to make an election by certain deadlines in order to be subject to the rule that he wants to use.

If you find that your client’s assets are held under a document that includes restrictions to which he does not want to be subjected, he can move the IRA assets to an IRA that is governed by an agreement that suits his objectives. Such movements are subject to deadlines, in order for the rules of the new IRA agreement to apply.

If the retirement account owner died on or after the RBD

If the retirement account owner died on or after the RBD, then the options are to take distributions over the longer of:

·The beneficiary’s life expectancy, or

·The remaining life expectancy of the decedent

In either case, distributions must begin by December 31 of the year that follows the year in which the retirement account owner died.

Be careful about moving assets

If you plan to help your client move inherited IRA to another inherited IRA, whether at the same or different financial institution, extreme care must be exercised to ensure that the account is moved properly.

If the wrong method is used to move the account, it could result in loss of tax-deferred status.

A nonspouse beneficiary’s only option for moving an inherited IRA to another is the trustee to trustee transfer method. A nonspouse beneficiary is not eligible to take a distribution and then rollover the amount. That means if a nonspouse beneficiary inadvertently takes a distribution, the tax-deferred status is lost and that amount is no longer eligible to be held in an IRA.

Ensure account is properly registered

In addition to meeting certain other requirements, the registration for an inherited IRA must include the beneficiary’s name and the name of the decedent, clearly showing who is the beneficiary and who is the decedent.

In addition, the account must be registered under the Social Security number of the beneficiary, so that distributions are reported to the beneficiary and included in his income.

Helping your clients

Handling important administrative affairs can seem trivial and unimportant when dealing with the trauma of the death of a loved one. However, delay in handling such affairs can be harmful from a tax and financial planning perspective.

You can help to ensure that the administration of your clients inherited retirement account is as seamless as possible, and done properly to ensure their desired objectives are met.

As some mistakes cannot be corrected, urge your clients to contact you before they complete any paperwork for any retirement account that they inherit.

Written By

Retirement Dictionary Staff

Frequently Asked Questions Regarding

The treat-as-own option , which applies only to a spouse who is the sole primary beneficiary, allows for the transfer of the inherited IRA balance to the surviving spouse’s ‘own’ non-inherited IRA. It also allows the surviving spouse to redesignate the decedent’s IRA to an IRA in his/her name in addition to effecting the removal of the decedent’s name from the account registration. The actual procedure is determined by the guidelines contained in the financial institution’s operational procedures. Alternatively, a surviving spouse is deemed to have made the election if, at any time, either of the following occurs —
  • Any amount in the IRA that would be required to be distributed under the beneficiary option is not distributed within the applicable deadline or
  • The spouse makes contributions to the IRA

The result of the treat-as-own option is that the IRA is treated as if it was established and funded by the spouse, instead of being inherited.

  • If the inherited IRA is a SIMPLE IRA, it cannot be moved from under a SIMPLE until it had been at least two-years since the first contribution was deposited to the deceased participant’s SIMPLE IRA.
  • If the IRA is a Roth IRA, the IRA-agreement should be consulted to determine the options available to the spouse beneficiary. Some documents require the spouse beneficiary to treat the inherited Roth IRA as his/her own, i.e., the spouse does not have the option to treat the Roth IRA as an Inherited-Roth IRA

No.  You cannot rollover or transfer an Inherited IRA to your own IRA, because you are a non-spouse beneficiary. A non-spouse beneficiary is defined as a beneficiary that is not the surviving spouse of the deceased IRA owner.  As a non-spouse beneficiary of an IRA owner who died before his required beginning date (RBD), you are required to have the amount moved to an inherited IRA.  An inherited IRA is one that is registered in the name of your uncle’s ( the decedent) and your names, using your social security number.  An example of a registration that satisfies the IRS requirements is: IRA FBO Jim P, Beneficiary of Tom S (Deceased)”. Any variation of this will work, as long as it is clear who is the beneficiary and who is the decedent.  Some financial institutions may shorten ‘beneficiary’ to read ‘bene’, ‘beneficiary of ‘to read ‘B/O’ and/or ‘deceased’ to read ‘decd’.

Depending on the financial institution’s operational requirements, you may need to move the assets to a new account number, or they may reregister the same account number used by your uncle. Any method will satisfy IRS requirements, as long as distributions are reported in your social security number.  If the assets are moved to a new account number, it should be done on a non-reportable basis, i.e. it should not be done as a distribution or contribution.

Your distribution options are as follows:

  • Distribute the assets over yourlife-expectancy.  Under the life expectancy method, you must take a required minimum distribution (RMD) amount each year. Your first RMD amount would be due by December 31 of this year (the year after your uncle died). You can withdraw more than the RMD amount- up to the entire balance – at anytime.
  • Distribute the assets under thefive-year rule. Under the five year rule, the entire balance must be distributed by December 31, of the 5th year, following the year your uncle died. Since he died in 2007, the assets must be fully distributed by December 31, 2012. Distributions before then are optional.

If you fail to withdraw your RMD amount by the deadline, you will owe the IRS an excess accumulation penalty of 50% of your RMD shortfall. For instance, if your RMD for the year is $10,000, and you withdraw only $2,000, you will owe the IRS an excess accumulation penalty of $4,000 ($8,000 x 50%).

Distributions from your inherited IRA cannot be rolled over; however, you can transfer amounts to another inherited IRA, providing the receiving inherited IRA is registered in both your’s and your uncle’s name.


No. It is true that the IRS requires the inherited IRA to include the name of the decedent in the registration, to show that the account once belonged to the decedent. This also serves as a reminder to all stakeholders that the account is an inherited IRA, which means it is likely that the account is not eligible to receive a contribution [other than a direct rollover contribution on behalf of the beneficiary of a qualified plan, 403(b) account or 457(b) plan]; and it allows the beneficiary to identify the source of each IRA he or she holds for purposes of figuring the taxation of a distribution from the IRA, including exclusion from current year gross income as an eligible rollover distribution. But nowhere does it state that the absence of the decedent’s name will result in the trustee to trustee-transfer being treated as a distribution.

There are other – more important- elements that makes an IRA an ‘inherited IRA’ or ‘beneficiary IRA’.
These include:
• Coding the account as an inherited IRA for tax reporting purposes. This involves hard-coding the account so that all distributions are reported with a Code 4 in box 7 of IRS Form 1099-R.
• Coding the account so that it cannot receive IRA contributions.

Therefore, the first thing you (or the IRA owner) need to do is check with the custodian to determine if:
• The account was coded as an inherited IRA for tax reporting purposes
• The only assets in the account are the assets from any transfers (from the decedent’s retirement accounts).

If the answer is yes in both cases, then all you need to do at this point is show the custodian proof that the assets were transferred (not distributed) from an IRA ( in the name of the decedent) to that IRA, and instruct them to correct the registration to include the name of the decedent.

If the account was not coded as an inherited IRA, and the only assets are in the account are the assets that transferred from the decedent’s IRA, then you need to:
• Provide the custodian with the supporting documentation to show that the assets were transferred (not distributed) from the decedent’s IRA to that IRA
• If any distributions were already taken from the beneficiary’s IRA that were not coded as a ‘death distribution’, instruct the custodian to issue a corrected 1099-R with the correct coding.
• Instruct the custodian to add the name of the decedent to the account registration and code the account as an inherited IRA.

If the assets were commingled with non-inherited IRA assets, then you have a problem and would need the assistance of a retirement plans expert to determine if and what type of corrective measures can be taken.


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