Roth IRA beneficiary and the five-year rule
If Client inherits a Roth IRA that has not yet met the 5-year rule on tax-free distribution of gains, can they use the 10-year rule to “wait out” the remainder of the 5-year qualification period in order to take the entire Roth out tax-free?
Or must the original Roth owner “survive” the 5-year window to allow the bene to take all gains tax-free?
Permalink Submitted by Alan - IRA critic on Tue, 2021-09-07 20:41
The 5 year holding period includes the time held by the Roth owner plus the time held by a beneficiary. Therefore, the beneficiary can wait until 5 years has passed counting the year of owner’s first Roth contribution. However, until the 5 year holding period is complete, client can still distribute the Roth IRA basis tax free as basis comes out first under the ordering rules and gains come out last.
If client takes a distribution under the ordering rules before 5 total years has passed, client will also need to know decedent’s regular and conversion contribution basis in order to report the distribution on Form 8606. Sometimes the owner’s basis is difficult to determine, but if the first contribution year is known client can wait until qualified and will not have to know the basis and will not have to file an 8606 either.
Finally, waiting until the end of the 10 years will not only guarantee qualification, but it provides more time to generate tax free gains.
To be clear on your last question, the answer is No, the owner does not have to live 5 years for the beneficiary to eventually add more time to meet the requirement for a qualified Roth.
Permalink Submitted by Robert Vashko on Tue, 2021-09-07 20:49
Thank you, sir. Was pretty sure I was right, but I appreciate the verification.