Slott Report Mailbag: What Happens If I Name a Minor as My IRA Beneficiary?

This week’s Slott Report Mailbag looks at naming minors as IRA beneficiaries, something we cover in some depth in other articles, as well as the RMD (required minimum distribution) rules around annuities. As always, we stress the importance of working with a competent, educated financial advisor to keep your retirement nest egg safe and secure. Find one in your area at this link.

1. If you make a non-deductible IRA contribution, can that amount be converted to a Roth IRA tax-free if you have a 401(k)?

Answer:
Having a 401(k) plan doesn’t affect the taxation of an IRA conversion. The taxation depends on whether or not you have any other IRA funds, including SEP and SIMPLE IRA funds. The pro-rata tax rule applies, which means if you do have other IRA funds that contain pre-tax money, then the conversion of the non-deductible IRA contribution amount won’t be tax free. It will be partially taxable and partially tax free using the percentage of your pre-tax funds in all your IRAs to all your after-tax tax amounts (such as nondeductible contributions). You will have to file Form 8606 with your income tax return to report the conversion and to do the pro-rata calculation. You can find the form on the IRS website, www.irs.gov. Click on “Forms and Publications.”

2. If I were to purchase an immediate annuity with all the funds in my only taxable IRA, what impact does that have on RMDs (required minimum distributions) when I’m age 70 1/2?

Answer:
IRA annuities must meet the RMD rules; however, depending on the type of annuity you buy, the RMD amount may be larger than the RMD if you didn’t buy an annuity. When an IRA annuity starts paying out, (“annuitizes”) the annual distributions are the RMD for the annuity.

3. In your books you talk about leaving a Roth IRA to grandchildren to stretch the IRA. Are minor grandchildren permitted to inherit assets from a Roth IRA? If the IRA were invested in mutual funds, what would happen to them if I die while the grandchildren are minors?

Thank you for your assistance.

Sincerely,

Martha Willis

Answer:
Minors can be the beneficiaries of any IRA, including a Roth IRA. Regardless of what the IRA is invested in, upon your death, your grandchildren will need to take death distributions, typically over their own single life expectancies. Those Roth IRA distributions generally will be tax free to them. However, there is a problem. Minors cannot sign IRA agreements, manage investments, or manage the distributions that come out of the IRA. You will need to have a guardian or a trust in place to do this for the minors. You should check with your IRA custodian to see what their procedures are when a minor inherits an IRA, and you may need to consult with an attorney about setting up a trust. Be sure to ask an attorney about their IRA knowledge and how or where they acquired that knowledge. An improperly drafted trust or the wrong moves after your death can mean the end of the IRA with income tax being due all at once.
 

– By Joe Cicchinelli and Jared Trexler