Author Topic: Inheriting a 401k  (Read 1434 times)

brute

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Inheriting a 401k
« on: October 20, 2017, 01:06:42 PM »
My father-in-law passed away recently and while he wasn't wealthy, he had a decent bit of money in his retirement accounts. Is there anything we need to be doing or preparing to do the minimize the tax hit we take upon receipt of the money from his 401k?

zolotiyeruki

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Re: Inheriting a 401k
« Reply #1 on: October 20, 2017, 01:47:21 PM »
I think Step 1 is to tell the account manager to NOT liquidate the account.  If they do, then you'll get all the money at once and pay taxes on all of it at once, at a higher marginal rate.  My understanding is that you can roll the inherited 401k into an inherited IRA, and then you can take the Required Minimum Distribution each year to minimize your tax exposure.  This also allows you to gradually roll the inherited funds into your own tax-deferred accounts.  For example, if the inherited 401k is worth $100k, and you roll it over into an inherited IRA, your first RMD is about $5,400, and then drops to $2,400 next year.  If you withdraw $5,500 each year, that increases your income by $5,500, but if you increase your own pre-tax contributions (to a 401k or tIRA) by the same amount, you'll get to deduct that same $5,500, and end up paying no taxes on it (until you withdraw it in retirement).

Frankies Girl

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Re: Inheriting a 401k
« Reply #2 on: October 20, 2017, 03:24:49 PM »
So sorry for your family's loss.

PLEASE make sure to confirm the below with your own lawyer/estate manager/financial group. This is all based off my own experience after my dad died, and I am not a lawyer - just some strange person on the internet. :)


Inheriting a 401k/IRA doesn't trigger any taxable income or events, it is the distributions that count towards income (just not earned income). So it may be more like getting a few thousand a year extra in a paycheck. The taxes owed likely will be minimal, and you can set up the RMDs to be automatically done with both state and federal taxes withheld from the distribution in any increment you'd like.

Contact the company that holds the account and get their procedure for transferring the account to the beneficiaries if listed. Usually it is this: executor sends letter with death certificate and notes account number and beneficiary information, then the beneficiaries are tasked with creating their own accounts to funnel their share of the inherited account into.

If he had a beneficiary on the account, then that trumps anything in a will. Named beneficiaries on accounts are always legally above any instructions in a will (IANAL tho, but that was what our lawyer told my family and was confirmed by Fidelity). So it is a streamlined process and does not need to wait on probating the will for the executor to get that going - the only thing you'd need is to send the certified copy of the death certificate and instructions as per the financial institution's representative.

If FIL was over the age of 70, the estate must take a distribution (required minimum distribution) from this account if your FIL had not done so already this calendar year. The executor needs to jump on this ASAP since they have less than 3 months now.

The account should be retitled as an inherited account, usually something like "BDA IRA" with FIL's name still on there somewhere (as the deceased) and the new owner's (heir) name. One the stocks/bonds/whatever have been transferred over, you can sell off all of them and buy based off your asset allocation and since the funds were all contained in an IRA, there is no taxable event triggered (only withdrawals/distributions are taxable in these types of accounts).

RMDs are calculated based off the account holder's age/estimated lifespan and the amount of money in the account.


You want to do a stretch IRA option, not get stuck doing a total liquidation within 5 years. The 5 year option is forced on you if you either:

A) forget to take a distribution on behalf of the estate if FIL had not already done so for this year (if he was over 70.5 years); or

B) once the account has been shifted to become an inherited IRA for the beneficiary, if the beneficiary fails to take their required minimum distribution the following year.

If you somehow end up forced to liquidate the full amount within 5 years, that would be the equivalent of you earning that money - so say it was $100K, and you were forced to take it each year for 5 years... you'd have 20K extra income to pay taxes on. Or worse, nobody told you to do that the first year or two and the government finally noticed year two, and they force you to finish it out within 3 years - so a whole $33K added to your income for the remaining time... So yeah, avoid this option to minimize your tax hit.
« Last Edit: October 20, 2017, 06:09:51 PM by Frankies Girl »

brute

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Re: Inheriting a 401k
« Reply #3 on: October 21, 2017, 11:02:55 AM »
Thank you to both of you. It's really appreciated. I now have vanguard ira's set up for this and have sent instructions to the executor on what we want done. Fortunately the beneficiaries were named and everything looks to be fairly simple. My accountant is going over everything as well but this was a great first step to try to figure out what needs done.

Splashncash

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Re: Inheriting a 401k
« Reply #4 on: October 27, 2017, 05:43:49 PM »

If FIL was over the age of 70, the estate must take a distribution (required minimum distribution) from this account if your FIL had not done so already this calendar year. The executor needs to jump on this ASAP since they have less than 3 months now.

Condolences to you.

As Frankie's Girl says, check with your lawyer/Vanguard but when my mother passed away we had until the following December to take the RMD from the inherited IRA.  Perhaps you don't have to jump to get it done by December.

Glad you are sorting it out with Vanguard.