I’ve read there’s a rule even if you have three children, your IRA beneficiary must be your oldest child, which sounded wrong and unfair to me. Is it true?
You may be thinking of the rule that when an IRA is inherited by multiple beneficiaries, it must be emptied over the life expectancy of the oldest beneficiary if the account isn’t divided by Dec. 31 of the year following the original owner’s death. If the IRA is divided into several Inherited IRAs by that deadline, each beneficiary can take distributions over his own life expectancy.
Let’s say your three children, Joe, Frank, and David inherit your $450,000 IRA. Joe is 62, Frank is 58, and David is 52. All IRA distributions are taxable. Your kids could empty the account immediately, with each of them taking — and paying taxes on — his $150,000 share. Or they can prolong the IRA’s tax-deferred growth by limiting their taxable withdrawals to a required minimum distribution (RMD) every year.
If the IRA custodian (i.e., the financial institution that holds the IRA) divides it into three $150,000 Inherited IRAs by Dec. 31 of the year after your death, each beneficiary can base his annual RMDs on his own life expectancy. Joe’s first RMD would be $6,383, Frank’s first RMD would be $5,556, and David’s first RMD would be $4,644.
If the IRA is divided after that Dec. 31 deadline, their annual RMDs must all be based on Joe’s life expectancy. As a result, the IRA will be emptied faster.
THE BOTTOM LINE
When several beneficiaries inherit an IRA, they can prolong its tax advantages by asking the IRA custodian to divide the account into Inherited IRAs no later than Dec. 31 of the year following the original owner’s death.