Inherited-beneficiary individual retirement accounts are typically an emotional topic. Generally, they represent diligent savings from a loved one who has passed away, and you have now inherited an IRA or 401(k) from them since you were named the beneficiary on the account.

This could be a parent, sibling, spouse, or someone else who is special in your life. Before the SECURE Act, which was passed in December 2019 and for decedents who passed away on or before Dec. 31 of that year, this was an easy decision; generally, the beneficiary was a designated beneficiary who used the “stretch rule,” or you were a nondesignated beneficiary, such as a charity or estate, which was, and still is, under the five-year rule. Overall, the rule prior to the SECURE Act was straightforward.

The enactment of SECURE Act 1.0 added a new layer. Now, there is a determination of an “eligible” designated beneficiary or a “noneligible” designated beneficiary.

An eligible designated beneficiary is generally a spouse, a minor, or other known exceptions that are less common. A noneligible designated beneficiary is mostly everyone else.

Eligible designated beneficiaries have their own rules, and we would recommend consulting your CPA and your financial adviser over this determination, and the rule in SECURE Act 1.0 remains in place.

However, for everyone else who is a noneligible designated beneficiary, the powers that be said they wanted all traditional and Roth beneficiary IRAs liquidated 10 years from the decedent’s passing—typically 11 tax years.

For Roth IRAs, there are no immediate tax implications, and the beneficiary gets 11 years of additional tax-free growth before moving out to a taxable account. 

For traditional IRAs, this has created real tax consequences and made it harder to know when the beneficiary should take the distributions from the beneficiary IRA from a tax perspective. Facts and circumstances are different for each, but generally, a plan was decided on how to liquidate the account. At that time, the government wanted the funds out in 10 years but was unclear on how it wanted them disbursed.

Enter near the SECURE Act 2.0 enactment in December 2022. The IRS began publicly discussing the required minimum distributions, or RMDs, on these traditional inherited-beneficiary IRAs and why it didn’t see the expected increase in tax revenue. The IRS soon realized the original law did not conclude that accounts of decedents taking RMDs—or ones now eligible if they were still alive—should still be taking RMDs through the 10-year rule above.

In late 2022 and 2023, the IRS provided notice of the new guidelines on noneligible designated beneficiaries. The good news is the IRS waived the RMD penalty for fiscal year 2021 and 2022 in October of 2022, given the subjectivity of the law. The bad news, though, is the IRS has not resolved the RMD penalty in the future for a noneligible designated beneficiary. We now need to consider the required beginning date. Essentially, this is the date the decedent was or should have started their RMD.

Though the IRS hasn’t provided how long they will provide relief from the RMD penalty—2023 is waived—we encourage you to take out at least the calculated RMD based on the required beginning date each year to smooth out the tax consequences. However, consult your CPA and your financial adviser to determine what is best for your situation.

To wrap it up, an emotional situation that used to be straightforward is now much more complex and requires planning on what to do with the funds of an inherited IRA.