Nobody likes to think about the death of a loved one and the financial benefit that may come with it. On the other hand, ignoring the issue could make for a messy couple of months after that loved one’s death. What happens, for example, to someone’s IRA when he or she passes away? As with any question related to estate planning, the answer could be complicated depending on a lot of factors. That’s why you should learn the inherited ira rules below, then talk to an estate attorney about your specific situation.

Before we go any further, if you have an IRA, check with the company holding the account to make sure you have a beneficiary assigned. If you don’t, take care of that chore right away. It may prevent unnecessary legal bills upon your passing.

When a Spouse Is the Beneficiary

When the owner of a 401(k) dies, the spouse usually inherits the account, no questions asked. However, that’s not necessarily the case with IRAs. The rules for 401(k)s are set by federal tax codes and retirement law, but IRAs are controlled by state law. Your state may require that a spouse be the beneficiary of at least half the funds—but not necessarily. Make sure your husband or wife is named as the beneficiary to clear up any confusion.

If you are the spouse and have inherited an IRA, the rules are the same as they were for your deceased loved one, provided you take the most common option—the rollover. You can’t take distributions before age 59½ without paying applicable taxes and a hefty 10 percent penalty. If you’re over age 70½, you must take a minimum distribution unless your spouse already took it for that year.

Most spouses who inherit an IRA simply roll it into their own IRA or start a new account in their name and name a beneficiary of their own.

As a surviving spouse you could also open an inherited IRA and take annual distributions over your lifetime. In general, you should plan to start taking distributions by December 31 of the year after your spouse’s (the original IRA owner’s) death. The advantage of an inherited IRA is that you won’t pay the 10 percent early withdrawal penalty even if you’re under age 59½ (but you will pay taxes on the distributions).

Other options include the five-year spend down, in which you open an inherited IRA and take distributions of the full amount over five years. You’ll pay taxes but not the 10 percent penalty.

Finally, you can take a lump-sum payout. Again, there’s no 10 percent penalty, but you’ll have a hefty tax bill on the money if it’s in a Traditional IRA.

A man filling out his beneficiary form for an inherited IRA.

Non-Spouse Inheritance

The major difference for beneficiaries who aren’t the spouse is that they cannot do a rollover into their own IRA and continue as if nothing has changed. Non-spouses have to begin distributions.

Outside of that, all the options are the same: They can open an inherited IRA and take distributions over their life, over five years or in a single lump sum. There’s no 10 percent penalty for any of these options.

What About a Roth IRA?

Roth IRAs are predicated on the owner paying taxes upfront instead of when distributions take place. For that reason, all of the rules are the same for a beneficiary, spouse or non-spouse, providing the Roth IRA is at least five years old. The only difference—and it’s a good one—is that you don’t have to pay any taxes on the distributions.

Saving for the Future

Depending on the size of the IRA, there could be a lot of earning potential left in that money. Especially if you’re younger, it’s best to keep the money invested in some capacity. If you’re forced to take distributions, put them right back into an investment vehicle that will allow it to grow or use them to pay off debt—but don’t spend the money. Wouldn’t it be nice to someday get monthly checks from this inheritance or find the financial security you and your family have always dreamed of?

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