A newly acquired individual retirement account (IRA) is good financial news for the recipient, but clients may need help unraveling the host of rules and requirements regulating how and when beneficiaries must take required minimum distributions (RMDs). Tax laws surrounding inherited IRAs are complicated. They became more so with the Setting Every Community Up for Retirement Enhancement (SECURE) Act of 2019, P.L. 116-94, and then the SECURE 2.0 Act, which passed on Dec. 29, 2022 (Division T of the Consolidated Appropriations Act, 2023, P.L. 117-328). Failure by the beneficiary to understand the requirements could result in lost income tax planning opportunities at best and excise tax penalties at worst.

The passage of the SECURE Act means that most nonspouse beneficiaries who inherit IRA assets on or after Jan. 1, 2020, are required to withdraw the full balance of the account within 10 years. This includes adult children and grandchildren and most other designated beneficiaries. This change limits the popular “stretch” IRA tax planning tool, which allowed many inherited IRAs to be distributed over the beneficiary’s lifetime. Only select groups, including spousal beneficiaries, and those in special categories created by the SECURE Act are eligible for more extended deferral periods.

The original rules under the law prior to the SECURE Act still drive many of the requirements for distributions, so they are worth briefly reviewing.

The RMD rules for defined contribution plans are set out in Sec. 401(a)(9). These basic rules apply to all defined contribution plans, including regular and Roth IRA accounts; annuity contracts; custodial accounts; profit-sharing, Sec. 401(k), and Sec. 403(b) accounts; and Sec. 457(d) deferred compensation accounts.

Sec. 401(a)(9)(A) provides rules for RMDs during the life of an IRA owner, and Sec. 401(a)(9) (B) addresses RMDs after the IRA owner’s death.

Sec. 401(a)(9)(B)(i) defines rules for distributions if the IRA owner dies after RMDs have begun. If the IRA owner has already begun taking RMDs, the decedent’s remaining interest must be distributed at least as rapidly as when the owner was alive.

Sec. 401(a)(9)(B)(ii) requires that if the IRA owner dies before RMDs have begun, the account must be distributed within five years after the owner’s death. This requirement was significantly modified by the SECURE Act, as described below. Under the original law, the account could be distributed at any time within five years. A beneficiary could wait until the last month of the fifth year to take a distribution. This is not the case under the SECURE Act.