Most workers in the U.S. no longer count on employer-sponsored pensions to fund their retirement. Instead, many of them rely on self-funded retirement options such as Individual Retirement Accounts (IRAs), 401(k)s, and other tax-deferred retirement accounts. An IRA is a tax-advantaged retirement account that you own and control. Earnings generated can compound on a tax-deferred basis until withdrawal. In essence, an IRA is like having your own personal pension that you and/or your employer may contribute to for your retirement years. Named for the section of the Tax Code that governs them, an IRA lets workers save and invest a piece of their paycheck before taxes are taken out. Taxes aren’t paid until the money is withdrawn from the account. What happens though, if money remains in your retirement account when you die? A Riverside estate planning lawyer who specializes in retirement and tax issues at Sandoval Legacy Group, A Professional Law Corporation explains what happens to your retirement account when you die.
What Happens to the Funds in a Retirement Account Upon the Death of the Owner?
When a participant in a retirement plan dies, benefits the participant would have been entitled to are usually paid to the participant’s designated beneficiary in a form provided by the terms of the plan (lump-sum distribution or an annuity).
Many retirement plans require you to name your spouse as the beneficiary unless he/she signs a form allowing you to name someone else as the beneficiary. The Employee Retirement Income Security Act (ERISA) protects surviving spouses of deceased participants who had earned a vested pension benefit before their death. The nature of the protection depends on the type of plan and whether the participant dies before or after payment of the pension benefit is scheduled to begin, otherwise known as the annuity starting date.
Assets held in a retirement account can be paid out to the beneficiary shortly after the owner’s death because retirement accounts are “non-probate” assets, meaning they bypass the probate process. Depending upon the type of plan, and whether the participant died before or after retirement payments had started, the plan administrator should provide the beneficiary with the following information after the beneficiary submits a certified death certificate:
- the amount and form of benefits (in other words, lump sum or installment payments under an annuity);
- whether death benefit payments from the plan may be rolled over into another retirement plan; and
- if a rollover is possible, the method and time period in which the rollover must be made.
Beneficiary Options and Taxes
If you inherit a traditional IRA from your spouse, you generally have the following three choices:
- Treat it as your own IRA by designating yourself as the account owner and rolling it over into a traditional IRA, or
- Treat yourself as the beneficiary rather than treating the IRA as your own by creating an Inherited IRA.
If you inherit an IRA from someone other than your spouse, you cannot treat it as your own. This means that you are limited to either cashing the IRA in over a period of time or treating the IRA as an inherited IRA.
A beneficiary of a traditional IRA will generally not owe tax on the assets in the IRA until the beneficiary receives distributions from it.
As a general rule, the proceeds from a Roth IRA are tax-free to the beneficiary.
Distributions that are not rolled over or placed in an Inherited IRA must be distributed by the end of the fifth calendar year after the year of the owner’s death unless the interest is payable to a designated beneficiary over the life or life expectancy of the designated beneficiary.
If the sole beneficiary is the spouse, he or she can either delay distributions until the decedent would have reached age 70½ or the spouse reaches 701/2. When required Minimum Distributions are taken at age 701/2, they are calculated using the IRS uniform table. Required Minimum Distributions from Inherited IRAs must started no later than December 31 of the year after the year of the IRA owner’s death and must be calculated using the IRS single life expectancy table.
Contact a Riverside Tax and Estate Planning Lawyer
If you have additional questions or concerns regarding the fate of funds remaining in your retirement account after your death, contact the experienced Riverside tax and estate planning attorneys at Sandoval Legacy Group, A Professional Law Corporation by calling (951) 888-1460 to schedule an appointment.
Have a question? Ask Dennis.