Today, we're delving into a topic that has caused a bit of a stir in the world of estate planning: the 10-year cleanout rule for inherited IRAs. If you're scratching your head about what this means, you're not alone. Let's break it down in plain language.
The Background: Saying Goodbye to the Stretch IRA
Back in December 2019, a new law shook up the game for passing down IRAs to non-spouse beneficiaries. Before, individuals could leave their IRAs to children or grandkids, and these heirs could stretch out required minimum distributions (RMDs) over their own lifetimes. It was a neat strategy that allowed the funds to grow tax-free for decades. However, Congress thought it was a bit too sweet a deal for the wealthy and introduced the 10-year cleanout rule.
The 10-Year Cleanout Rule Demystified
Here's the scoop on how the 10-year cleanout rule works. If you inherited an IRA after 2019, you usually have to distribute all the funds within 10 years of the original owner's passing. Sounds straightforward, right? Well, there are some exceptions.
Spouses and Minor Children: Surviving spouses and minor children catch a break. They can follow a different playbook. For minor children, the exception applies until they hit 21.
Chronically Ill, Disabled, or Close in Age: If you're a beneficiary dealing with chronic illness, disability, or you're not more than 10 years younger than the person who left you the IRA, there are exceptions too.
To Wait or Not to Wait? That is the Question.
Now, the big question causing a ripple in the pond: Do you have to take money out every year, or can you wait until year 10 to clean out the account? Initially, the IRS suggested that yearly payouts weren't a must. Beneficiaries could choose when to take distributions, as long as the account hit empty within a decade.
The IRS Throws a Curveball: Proposed Regulations
Cue the drama. In March 2022, the IRS threw in a twist with proposed regulations. Brace yourselves: if the original IRA owner passed away after their first required minimum distribution (RMD), annual RMDs must be paid to the beneficiary in the first nine years, with the rest cleared out by the 10th year. Confused? You're not alone.
Criticism and Confusion: The Professional Verdict
Tax and retirement pros weren't thrilled with this proposed twist. They prefer a consistent 10-year rule, regardless of when the original owner started taking RMDs.
IRS to the Rescue (Sort Of)
In a bit of good news, the IRS has given some breathing room. If you inherited an IRA after 2019, and the original owner was already dealing with RMDs, you won't get penalized for skipping distributions in 2021, 2022, and now, 2023.
Hold tight. The proposed regulations aren't set in stone yet. Many are hoping for more clarity and a rule that's easier to follow.
In the meantime, if you're navigating the world of inherited IRAs, consider consulting with an estate planning attorney at our law office. They're the experts who can guide you through these twists and turns, ensuring your financial strategy aligns with the ever-changing rules.
Stay tuned for updates.
About the Author
Leslie has been practicing law since 2009 and is the host of the estate planning podcast 'Legacy Purse'. She has a long history of representing family members struggling to inherit property and/or wealth from deceased family members through the Probate Courts. Knowing how time-consuming and expensive the probate process is, Leslie takes great pride in helping her clients learn how to plan and protect their families during their lives so they can avoid the probate court process and save their loved ones that additional grief (and expense).