What Surprises Are You Leaving for Your IRA Beneficiaries?
Do you own one of the more than 25 million individual retirement accounts (IRA) in the United States? Since its inception in 1974, the IRA has become a popular retirement planning tool. In fact, as of 2013, IRAs collectively held nearly $2.5 trillion in assets.1
One of the reasons IRAs are so popular is that they offer unique tax advantages. For instance, traditional IRAs allow you to deduct your contributions and then defer taxes until you withdraw the funds from the account. Roth IRAs don’t offer upfront deductions, but do offer tax-deferred growth and tax-free withdrawals.
Another appealing aspect of IRAs is that they have beneficiary designations. That means you can state who your IRA beneficiaries are and then, upon your death, the assets pass to those individuals without going through probate. That’s important because probate can often be a costly and time-consuming process.
While your beneficiaries may appreciate receiving a share of your assets, they may also be surprised by fees, taxes, and penalties associated with the account. In fact, if you don’t plan carefully, their benefit could be greatly reduced after your death. Below are a few financial risks your beneficiaries could face, along with the steps you can take to protect them:
RMD Excise Taxes
With the exception of the Roth IRA, most IRA accounts require you to begin taking distributions at age 70 ½. The distribution amount is based on your life expectancy and the balance of your account. As you get older, the required withdrawal rate generally increases.
If you don’t take your required minimum distribution (RMD) as scheduled, you could face an excise tax equal to 50 percent of the skipped withdrawal. What if you pass away before you pay the tax? In that scenario, the tax is levied on your estate. You loved ones can apply for a waiver, but there’s no guarantee that the request will be approved.
Fortunately, there’s a simple way to avoid this risk. Take your RMDs as scheduled. If you miss one and face an excise tax, pay it as quickly as possible so it’s not levied on your estate. Your loved ones will thank you.
Normally, IRA assets shouldn’t face probate and its legal and administrative costs. However, there is one way in which an IRA could go through probate. That’s what happens if there isn’t a living beneficiary to claim the IRA proceeds. Without a beneficiary available, the IRA is paid to the estate, where the assets could then go through probate.
This often happens when a person forgets to name beneficiaries, or when the beneficiary predeceases the account owner and no contingent beneficiary is named. Again, it’s easy to avoid this risk. Simply review your beneficiaries regularly to make sure they are correct.
Beneficiaries of a Roth IRA may not face income taxes, but beneficiaries of traditional IRAs and other types likely will. Distributions from traditional IRAs are considered taxable, even if it is a death claim distribution. If the amount is sizable, it could push your beneficiaries into a higher tax bracket.
Fortunately, they have options available. They may be able to spread the distributions out over several years or even their lifetime. That breaks the tax obligation into more manageable, smaller amounts.
Talk with your beneficiaries in advance so they understand their options. You may even want to bring them to a meeting with your financial professional. That way they can have all the information they need to make informed decisions.
Are your beneficiaries protected? Let’s talk about it. Contact us today at for a free financial evaluation. We can help you analyze your needs and develop a strategy.
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