What Happens When Beneficiaries do Not Split the Inherited IRA?
Generally, the goal when naming IRA beneficiaries is that they will stretch out their distributions on the inherited IRA for as long as possible. The tax code and regulations currently support this goal by stating that the stretch option is the default option. But, of course, there are certain rules that must be followed. The IRA agreement must allow for a stretch option. As unbelievable as it may seem, there are still IRA custodians that do not offer a stretch option to beneficiaries.
First of all, you have to actually name individuals on your beneficiary form. Individuals that inherit through an estate will have much less favorable distribution options.
Secondly, the inherited IRA must be split into separate accounts for each named beneficiary by December 31st of the year after the IRA owner’s death.
When both of those conditions are met, then each IRA beneficiary can stretch distributions from the inherited IRA over their own life expectancy. For a beneficiary in their 30s, that could mean a stretch of about 50 years.
What happens if the split is done after the deadline of December 31st of the year after the IRA owner’s death? Do the beneficiaries lose the stretch?
Again, we are assuming that the beneficiaries are named on the beneficiary form and do not inherit through the will, and that the IRA custodian allows a stretch option. The stretch is not entirely lost if the beneficiaries have not split the account on time. When there are multiple beneficiaries of the IRA you are still going to want to split the account. But the individual beneficiaries will not be able to use their own life expectancies. They will all have to use the life expectancy of the oldest of the beneficiaries.
Let’s say that the beneficiaries are Mom and her three children. Clearly the oldest beneficiary is Mom since we are not dealing with any miracles here. The inherited IRA can be split into four inherited IRAs, one for each beneficiary. All of the beneficiaries will have to use Mom’s life expectancy. They will look up Mom’s age in the year after the IRA owner’s death on the Single Life Expectancy Table to get the factor. That factor will be reduced by one for each year that an RMD is due to get the current year’s factor for all beneficiaries.
Even Mom will have to use the Single Life Expectancy Table. As a sole beneficiary, Mom would have options other beneficiaries do not have, but as one of multiple beneficiaries when the inherited account is not timely split, Mom becomes just another beneficiary and must use the reduce by one method for her distributions.