The "stretch IRA" is gone for most beneficiaries who inherit IRAs from people who aren't their spouses.
Before 2020, deceased owners of traditional IRAs could leave their accounts to their kids, grandkids, or other non-spousal individual beneficiaries, and the heirs could stretch required minimum distributions (RMDs) over their own lifetimes, thus allowing the funds in the accounts to grow tax-free for decades.
Congress saw this as a loophole and curtailed the break in the 2019 SECURE Act legislation.
Now there is a 10-year clean-out rule for many beneficiaries of inherited IRAs. The IRA funds must be distributed to them within 10 years of the owner’s death. This requirement applies to many IRAs inherited after 2019.
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The 10-year rule for inherited IRAs
For most non-spousal beneficiaries who inherit an IRA after 2019, the IRA funds must be distributed to that beneficiary within 10 years after death. So, if an IRA owner dies in May 2025, the beneficiary must clean out the IRA no later than December 31, 2035.
Eligible designated beneficiaries are exempt from the 10-year rule. This applies to beneficiaries who are surviving spouses or minor children (until age 21) of the deceased account owner, beneficiaries who are chronically ill or disabled, and beneficiaries who are not more than 10 years younger than the deceased IRA owner. The 10-year clean-out rule also doesn't apply to beneficiaries who are older than the deceased IRA owner.
Eligible designated beneficiaries can still do stretch IRAs. Individuals who inherited IRAs before 2020 are also exempt from the 10-year clean-out rule. A surviving spouse also has the option to take the inherited IRA as his or her own. Whether a surviving spouse elects to treat the IRA as an inherited IRA or as his or her own IRA, the 10-year clean-out rule does not apply, and the spouse can stretch RMDs over his or her lifetime.
How exactly does the 10-year clean-out rule work for IRAs inherited after 2019? Must the beneficiary take a distribution each year during those 10 years? Before July 2024, this question caused a lot of confusion.
The IRS’s original interpretation of the 10-year rule led many tax and retirement professionals to believe that it doesn’t require annual distributions to beneficiaries. It was instead thought that beneficiaries could wait until year 10 to take out all the money, take annual distributions, or skip years, provided that the inherited IRA is fully depleted within 10 years after the original owner’s death.
The IRS issued proposed regulations in 2022 that muddied the waters. Under the proposed regulations, the mechanics of the 10-year cleanout rule differed based on whether the original IRA owner died before or after his or her beginning date for taking RMDs.
If the original IRA owner died before that date, then the beneficiaries needn’t take distributions from the inherited IRA each year, and can instead skip years or wait until year 10 to take all the money, depending on what the beneficiary chooses to do. However, if the deceased IRA owner died after the start date for taking RMDs, then annual distributions must be paid to the beneficiary in years 1 through 9, with the rest of the account fully depleted by year 10. In this situation, the beneficiary would compute annual RMDs based on his or her life.
The IRS’s proposed regulations received lots of criticism. Tax and retirement practitioners wanted the 10-year rule to apply on a consistent basis, regardless of whether the original IRA owner died before or after his or her beginning RMD date.
Two years later, the IRS issued final regulations in July 2024 that explain how the inherited IRA 10-year rule works. And, to the dismay of many, the IRS kept this controversial distinction in place: Whether an IRA owner dies before or after, their RMD beginning date.
- If the owner dies before his or her RMD beginning date, then beneficiaries needn’t take annual payouts. They can immediately cash out, opt to wait until year 10 to take the money, get yearly distributions, or skip years, provided the IRA is fully depleted by the end of the 10-year period.
- If the owner dies on or after the RMD start date, annual payouts are required. The beneficiary must withdraw, at a minimum, annual RMDs from the inherited IRA during the 10-year period, generally beginning with the year after the original owner died, and then fully deplete the IRA by year 10 at the latest. This means RMDs must be paid to the beneficiary in years 1 through 9, with the rest of the account fully depleted by year 10. In this situation, the beneficiary generally figures annual RMDs based on his or her own life, so the younger the beneficiary, the smaller the yearly RMD amounts. Of course, the beneficiary can withdraw larger amounts from the IRA if he or she so chooses.
Limited relief for IRAs inherited in 2020 - 2023
Because of the original confusion, caused in part by the IRS and the convoluted rules on the 10-year clean-out requirement, the agency decided to provide relief. The relief applies if the IRA owner died in 2020, 2021, 2022, or 2023.
Beneficiaries of IRAs in which the original owner was already subject to RMDs won’t be penalized for not taking annual distributions in 2021-24. They needn’t make up for the missed distributions. In figuring the 2025 RMD, they start with the life expectancy factor that applied to the beginning of the 10-year period and subtract one for each subsequent year.
Let's take an example where a beneficiary inherits a traditional IRA in 2022, the 10-year clean-out rule applies, the decedent started taking RMDs before death, and the beneficiary didn’t take RMDs in 2023 or 2024. Under the IRS’s final regulations, the beneficiary needn’t make up for the two years of missed RMDs. He or she must take only seven years of RMDs, starting with the first payout in 2025, and clean out the account by the end of 2032.
The 10-year rule for Roth IRAs
Similar to the rules for traditional IRAs, many non-spousal beneficiaries of Roth IRAs inherited after 2019 must clean out the account by the end of the 10th year after the owner’s death. But there are two key differences.
First, similar to Roth IRA owners, Roth IRA beneficiaries are not taxed on distributions.
Second, because Roth IRA owners are not required to take RMDs when alive, beneficiaries of inherited Roth IRAs need not worry about whether the original account owner died before or after the starting date for taking RMDs.
As a result, beneficiaries of Roth IRAs needn't take annual RMDs over 10 years. These beneficiaries can opt to clean out the account in year 1, wait until year 10 to take out all the Roth IRA funds, skip years, or get annual distributions, provided they fully deplete the Roth IRA within the 10-year period.
This first appeared in The Kiplinger Tax Letter. It helps you navigate the complex world of tax by keeping you up-to-date on new and pending changes in tax laws, providing tips to lower your business and personal taxes, and forecasting what the White House and Congress might do with taxes. Get a free issue of The Kiplinger Tax Letter or subscribe.
