Home

New Rules for Inherited IRAs in 2025: Plan Carefully to Avoid Penalties

Save as PDF

As seniors do their estate planning, one key question that arises involves how to bequeath individual retirement accounts, or IRAs. While some assets can be passed along to heirs seamlessly, many IRAs are in a much different category in the eyes of Uncle Sam. To make matters more confusing, rules governing IRA inheritance seem to change every year. (One expert quoted in today’s article called these changing rules “a spiderweb mess.”)

Whether you’re bequeathing an IRA or inheriting one, failure to understand and follow the regulations about when and how to take funds out of an IRA can be extremely costly, with potential penalties that can rob heirs of a significant chunk of their bequest. Given the high stakes, we wanted to share this recent article from CNBC in which reporter Kate Dore lays out the 2025 regulations for us.

The complex part, Dore writes, often concerns the timing of taking what are generally called RMD payments – required minimum distribution. Starting in 2025, if you as original owner of the IRA were old enough to have to take annual RMD withdrawals, your heirs (other than spouses) probably will be required to take RMDs, too, regardless of their age. What’s more, in any case most people inheriting an IRA will have no more than 10 years before they must withdraw it all and pay applicable taxes.

Let’s let Dore guide us through this tricky yet important topic.

A Windfall That Can Come with a Costly Surprise

“Inheriting an individual retirement account is a windfall for many investors,” Dore begins. She’s right. According to one source, the combined value of assets in individual retirement accounts is nearly $14 trillion. That represents a lot of potentially transferable wealth!

But before we get too excited, Dore warns us that a rules change for 2025 (described by CNBC last fall) could trigger a costly surprise penalty. “Starting in 2025,” she explains, “certain heirs with inherited IRAs must take yearly required withdrawals while emptying accounts over 10 years, known as the ‘10-year rule.’”  

Big Change in 2025: Enforcement of RMD Penalties

For her article, CNBC’s Dore spoke with financial planner Judson Meinhart from North Carolina. “The big change [for 2025] is the IRS is enforcing penalties for missed required distributions,” he said. The article explains that the penalty for missing a required minimum distribution from an inherited IRA is a painful 25 percent of the amount you should have taken out

Nevertheless, says CNBC, those penalties can be waived or reduced if your RMD oversight is “timely corrected” within two years, according to the regulations laid out by the IRS.  

The earlier CNBC article explains it this way. “If you miss yearly RMDs or don’t take enough, there is a 25 percent penalty on the amount you should have withdrawn. But it’s possible to reduce the penalty to 10 percent if the RMD is ‘timely corrected’ within two years.”

Changing Rules Have Tightened the Reins on Inherited IRAs

There was a time when those inheriting individual retirement accounts were under little if any pressure to pull the money out. “Before the Secure Act of 2019,” Dore writes, “heirs could withdraw funds from inherited IRAs over their lifetime, which helped reduce yearly income taxes.” But in 2019 that changed dramatically.

“Since 2020,” Dore explains, “certain inherited accounts have been subject to the ‘10-year rule,’ meaning heirs must deplete inherited IRAs by the 10th year after the original account owner’s death.” At first, that rule meant what it said: as long as the money was withdrawn (and taxes paid) within a decade of inheritance, the IRS did not enforce any RMD requirement. 

Last summer, the IRS finalized guidance concerning RMDs on these accounts. After years of waived penalties, says Dore, certain beneficiaries would have to take yearly withdrawals starting in 2025. This rule applies during the 10-year window. Failure to comply means hefty penalties, as noted above.

Some Who Inherit IRAs are Exempt from Penalties

As with most IRS regs, there are exceptions to the ones concerning inherited IRAs.

“The rule applies to heirs who are not a spouse, minor child, disabled, chronically ill or certain trusts,” says Dore. “The yearly withdrawals apply if the original IRA owner had reached their RMD age before death.” Presumably, if the owner of the IRA was younger than 73, RMD requirements will not have started – but the 10-year rule will still apply.

Perhaps those most affected are adult children who inherited IRAs from their parents, financial planner Edward Jastrem told Dore. But, he said, the rules have become a “spiderweb mess of decision-making.”

Beware of the Ten-Year Tax Squeeze

As the CNBC article states, there’s a rigorously-enforced penalty in 2025 for missing RMDs. But, as financial planner Jastrem reminds us, heirs also need to manage withdrawals to avoid what’s commonly called the “10-year tax squeeze.”

“Over the past few years,” Dore writes, “some heirs have skipped yearly withdrawals from inherited IRAs, which could mean larger required withdrawals before the 10-year window closes.” This uneven withdrawal pattern can play havoc, not only with tax planning, but also with certain income-related benefits.

For example, says Dore, boosting adjusted gross income can impact things like Medicare Parts B and D premiums. This in turn can trigger what’s called IRMAA – income-related monthly adjustment amount – which hi,es Medicare premiums considerably.  We wrote about IRMAA recently in this Blog article.

Rajiv’s View: Get the Right Financial Advice

We asked Rajiv to comment on the best strategy for those faced with the blessing and problem of an inherited IRA. “There’s no one-size-fits-all answer,” Rajiv acknowledges. “Everybody’s tax situation is different. But I would start with a bigger question: do you have a financial roadmap to guide you?”

Rajiv calls this roadmap a financial dashboard. “It’s a powerful planning tool,” says Rajiv. “A financial dashboard is almost like a crystal ball – it gives you the ability to make smart decisions no matter what happens. That even includes something you never expected – an inheritance, a sudden tax liability, a career change, an early retirement. The sooner you meet with a qualified planner and create a [financial] dashboard, the better-equipped you’ll be for whatever life throws your way.”

Contact us and let us put you in contact with the right adviser.

Rajiv Nagaich – Your Retirement Planning Coach and Guide

The long-awaited book by Rajiv Nagaich, called Your Retirement: Dream or Disaster, has been released and is now available to the public. Retirement: Dream or Disaster joins Rajiv’s ground-breaking DVD series and workbook, Master Your Future, as a powerful planning tool in your retirement toolbox. As a friend of AgingOptions, we know you’ll want to get your copy and spread the word.

You’ve heard Rajiv say it repeatedly: 70 percent of retirement plans will fail. If you know someone whose retirement turned into a nightmare when they were forced into a nursing home, went broke paying for care, or became a burden to their families – and you want to make sure it doesn’t happen to you – then this book is must-read.

Through stories, examples, and personal insights, Rajiv takes us along on his journey of expanding awareness about a problem that few are willing to talk about, yet it’s one that results in millions of Americans sleepwalking their way into their worst nightmares about aging. Rajiv lays bare the shortcomings of traditional retirement planning advice, exposes the biases many professionals have about what is best for older adults, and much more.

Rajiv then offers a solution: LifePlanning, his groundbreaking approach to retirement planning. Rajiv explains the essential planning steps and, most importantly, how to develop the framework for these elements to work in concert toward your most deeply held retirement goals.

Your retirement can be the exciting and fulfilling life you’ve always wanted it to be. Start by reading and sharing Rajiv’s important message. And remember, Age On, everyone!

(originally reported at www.cnbc.com)

Need assistance planning for your successful retirement? Give us a call! 1.877.762.4464

Learn how 70% of retirement plans fail and what you can do to avoid this.

Find out more about LifePlanning

0
Your Cart is empty!

It looks like you haven't added any items to your cart yet.

Browse Products
Powered by Caddy
Skip to content