What Children Can Do When They Inherit Your Retirement Account

Although spouses are generally the most common recipient of a retirement account, children can inherit them as well. In fact, most accounts allow you to leave the funds to a non-spouse beneficiary. Non-spouses, however, will have different payment options compared to spouses.

If a child inherits a retirement account, he or she has a variety of distribution options available. The best choice for them will depend on their unique financial and personal situation. Their options will also depend on the type of retirement account they have inherited.

IRA or Roth IRA Options

Option 1: Take a Lump Sum Distribution

Many beneficiaries simply take a lump sum because they assume that they have to do so. However, other options may be more beneficial.

Having a lump sum payment can negatively affect your tax burden. That is, you may end up paying higher income taxes in the year when the account is inherited, depending on the type of account.

Option 2: Take What They Want so that the Account is Exhausted After Five Years

As long as the account is gone at the end of the fifth year following the parent’s death, a child can take out funds as they see fit over a period of five years.

Option 3: “Stretch” Distributions Over the Beneficiary’s Lifetime

Children also have the option of taking distributions over their lifetime. If the child chooses this option, the first distribution must be made by, at the latest, December 31 of the year after the owner’s death. As long as the beneficiary takes the minimum amount required for distribution, the recipient can leave the remaining amount in an account to continue growing. If you do not receive the minimum, however, you may be subject to up to a 50% penalty on the amount that you should have taken.

If there is more than one beneficiary, it may be a good idea to create separate inherited accounts. If there is only one account, the minimum distribution will be based on the oldest beneficiary, which usually results in higher minimum distributions in total.

401(k)s and 403(b) Plans

401(k)s and 403(b) plans may or may not have the same three options. These programs are often not as flexible as an IRA or Roth IRA. For example, many plans specifically do not allow the “stretch” option, so it is essential to check the Summary Plan Description for particular information about the program. Some 401(k) plans can be converted to Roth IRAs by the beneficiary as well.

For more information about your children’s options, you can speak to a member of the Legacy Planning team by calling (904) 880-5554.

Written by Legacy Planning Law Group

Legacy Planning Law Group is dedicated to working with individuals and families to help protect the assets they have built throughout their life, and make everything simpler for families who have lost a loved one. We help thoughtful people achieve the peace of mind that comes with planning their personal legacy and passing on family harmony.