Inheriting a retirement account, like an IRA or 401(k) can be a big help to building wealth. However, it’s not as simple as a regular savings account, which you can hold onto indefinitely. A significant condition governs how you manage these assets: the 10-year rule.
If you fail to withdraw everything from the account within this timeframe, you could face steep penalties that can severely erode the value of your inheritance. It’s crucial to fully grasp the 10-year rule inherited IRA so you can optimize your financial benefits while avoiding costly mistakes.
In this blog, we will take a closer look at this law for inherited IRAs, from eligible beneficiaries to relevant tax implications. Then, you’ll have a better understanding of how to properly manage your inheritance and secure your financial future by making the most of your unexpected windfall.
What is the 10-Year Rule for Inherited IRAs?
The 10-year rule for inherited IRAs requires most non-spouse beneficiaries to withdraw the account balance entirely by the 31st of December of the 10th year following the death of the account holder.
For example, if the IRA owner died in November 2024, the beneficiary must withdraw all money on or before Dec. 31, 2034, to avoid fines.
You have two withdrawal options as a beneficiary. First, you can distribute the entire account balance in one or several withdrawals within the 10-year period. Second, you can take yearly distributions over 10 years, regardless of your age at the time of inheriting the account.
In some cases, a combination of both approaches may be used, provided the full balance is withdrawn within the required timeframe.
The SECURE Act of 2019 introduced this rule to accelerate tax collection on inherited retirement accounts. Under the 10-year rule, beneficiaries aren’t obligated to take annual required minimum distributions (RMDs). Instead, you can withdraw funds as needed—again, provided that you empty the account by the designated period.
This flexibility allows for strategic tax planning, such as timing withdrawals to minimize tax liability. However, it still carries risks and penalties—particularly if withdrawals are delayed and result in a significant tax burden in the final year.
To Whom Does the 10-Year Rule for Inherited IRAs Apply?
The 10-year rule doesn’t apply to everyone, so it is essential to know whether the law concerns you. It covers the following:
Eligible beneficiaries
- Non-spouse beneficiaries, including adult children, siblings, or other relatives
- Most inherited accounts, including IRAs and 401(k)s
Exceptions
The beneficiaries listed below are exempt from the 10-year rule but are subject to applicable withdrawal rules:
- Surviving spouses can roll over the account into their own IRA.
- The account holder’s minor children (under age 21) until they reach the age of majority.
- Disabled or chronically ill individuals can stretch distributions over their lifetime under specific conditions.
- Beneficiaries within 10 years of age of the deceased account holder, such as siblings, may also qualify for life expectancy-based distributions instead of the 10-year rule.
Tax Implications of the 10-Year Rule for Inherited IRAs
Inherited IRAs are one of the most complicated issues to address. So, it is vital to manage the tax implications of the 10-year rule to preserve your inheritance.
Ordinary income tax
Withdrawals from traditional inherited IRAs are taxed as ordinary income in the year they are taken. For example, if you withdraw $50,000 in a year, that amount is added to your taxable income. Depending on your state, you may also be subject to additional state income taxes.
No annual RMDs
While there are no annual RMDs, the freedom to choose your withdrawal schedule necessitates careful planning. Taking smaller withdrawals over the 10 years can help spread the tax impact, while a lump-sum withdrawal in the final year could push you into a higher tax bracket.
Penalty for non-compliance
Before the implementation of this act, non-eligible beneficiaries would withdraw all the money within five years of the IRA owner’s passing. Meanwhile, younger beneficiaries would stretch out IRA distributions for decades by letting the remaining money grow without paying taxes until they withdrew the rest.
The current rule states that you have 10 years to withdraw all the money when you inherit an IRA account. If you don’t entirely withdraw the account by the end of the 10th year, the IRS imposes a 50% penalty on the remaining balance.
This law can also increase taxes for beneficiaries in a higher tax bracket once they take out a distribution from the IRA.
State taxes
Depending on where you live, you may also owe state income taxes on distributions that can shrink your inheritance. You can work with a financial advisor to help you develop a tailored withdrawal strategy and minimize tax liabilities.
Strategic Withdrawal Planning for Your IRA
To maximize your inherited retirement account’s value, consider these strategies:
- Understand your tax bracket: Distribute withdrawals over multiple years to prevent jumping into a higher tax bracket.
- Utilize Roth accounts wisely: If you inherit a Roth IRA, withdrawals are generally tax-free—which allows for more straightforward planning.
- Consider your other incomes: Avoid making large withdrawals in years when you anticipate higher income.
With proper planning, you can optimize the timing and amount of your withdrawals to keep more of your inheritance intact.
The 10-Year Rule: A Smart Approach to Inherited IRAs
Inheriting an IRA offers an incredible opportunity to boost your financial security. However, the 10-year rule for IRAs requires thoughtful planning to avoid unnecessary taxes and penalties. Strategic withdrawal timing, understanding your tax obligations, and leveraging professional financial advice are essential to maximizing your inheritance.
At Tencap Wealth Coaching, we specialize in helping high-net-worth individuals navigate the intricacies of retirement planning and inheritance. Let our comprehensive advisory services enhance your financial strategy. Visit Tencap Wealth Coaching today.
Nick Carrigan
Nick trains and develops families in creating, maintaining, and growing wealth. This includes educating clients on the science and academics of investing, comprehensive financial planning, and ongoing coaching to ensure discipline for a lifetime. Nick has seen this create incredible levels of freedom, fulfillment, and love for the families he works with.
