The 2019 SECURE Act drastically changed how IRAs are inherited - how much will this affect you?

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Welcome to the enjoy more 30s family finance

podcast. The only podcast dedicated to making life more

enjoyable for young families. By hitting on the financial topics

that tend to weigh on us stress us out and distract our focus

from simply enjoying life.

Welcome to the sixth episode of Your Parent's

Money Mindset series. Last episode, we covered the current

rules governing non retirement accounts that can avoid

potentially significant taxation. Today's episode is

titled Inheriting IRAs, More Limited Options, where we will

cover some rules this time for inherited IRAs, as well as the

more recent approved changes or changes that have already gone

through that caused significant limitations now in your options

going forward when it comes to inheriting IRAs. You'll learn

today what you need to know about what key points the new

rules changed, and once again, what you can do and help your

parents to be aware of to possibly adjust for it. My son

Noah is currently one and a half years old and a huge Cookie

Monster fan. Cookie comes out of his mouth every morning to put

on an episode of Sesame Street with Cookie Monster in it. And

if you've ever watched Sesame Street before, they do have a

lot of clever parodies that they work in to try to keep the

adults watching along entertained. One in particular,

goes off the Harry Potter series and where Cookie Monster plays

Furry Potter needing to follow Professor Crumble Moore's

directions for completing the tasks and getting of course a

couple of cookies. As the skip goes on the rules change each

round, though, of which Cookie Monster obviously doesn't pay

any attention to causing him temporarily at least to be

rather frustrated with the process. I'm always thinking

halfway through the episode poor Cookie Monster, I guess really

Furry Potter, I suppose. He keeps having these rules changed

on him all of a sudden and that's not exactly fair. So what

you need to know is that inherited IRAs got furry

pottered, so to speak at the end of 2019 with the Secure Act. You

probably didn't hear about this, because towards the beginning of

2020 COVID happened, and the Secure Act wasn't exactly top

news anymore. What changed is that previously an inherited IRA

could be stretched out for that person's entire life. So let's

first tackle that first word I use stretched. What does

stretched mean? It means that you would only be required to

take a small portion every year out of the account. This

required amount referred to as an RMD, or required minimum

distribution was based on your life expectancy. As a child of a

parent, you were younger, which made these distributions pretty

minimal in most cases. Having very minimal required

distributions is a good thing. Because the amount that is

distributed is fully taxable as ordinary income. Less

distributions means less tax. Now, the rules require you to

take out all of these funds within 10 years. So your initial

thought might be like, 'Hey Joe, you know, 10 years isn't so bad.

Why is that really such a big deal compared to the old rules?'

If you took the funds equally over 10 years, that would mean

that every year you're taking 1/10th of the account, so 1/10th

distribution per year. Under the old rules, a 50 year old would

only need to be taking out around 1/34th per year, so a lot

less. The other big point is that if you inherited at 50,

you're probably still working at 60 for this new 10 year window.

So now all this income is going to be realized most likely

during your highest income earning years while you're still

employed. This means that distributions are going to hit

you in the top income tax brackets wherever you may fall,

or push you into even higher ones. If you are of the mindset

that tax rates are going to go up over time, by the time this

happens to you, the top income brackets could be even higher

today than today as well. The last part of this puzzle is not

to forget that the assets are growing in your parent's

accounts in the meantime. So whatever the tax liability might

be today that's going to hit you, it's growing and growing

and compounding as time goes on. A $200,000 IRA inheritance today

might be worth $400,000 10 years from now, when your parents may,

let's say pass away, all fully taxable as ordinary income to

you needing to be taken out over a 10 year period of time. So

what can you do? There honestly aren't a ton of options for you,

but the main possibility is off of the last part of the puzzle I

just mentioned. How or more precisely where your parents are

going to be leaving these assets to grow. Let's say your parents

had that $200,000 IRA, like we just had in the previous

example. That means that maybe 20% of it, or 40,000, is owed to

Uncle Sam. And that's just kind of a way to keep the math a

little bit simple. If in 10 years, that account grows again,

like we just talked about before to 400,000, that tax liability

number now also doubles to 80,000, using that same 20%

rate. And again, that's assuming tax rates do not go up in the

future. And like we've kind of alluding to before, if you

inherit it, during the height of your working years, 10 years

down the road, it would be on your tax bracket. So maybe,

let's say that could now be even higher, maybe as high as 30% and

we're jumping all the way up to $120,000 now in taxes that's

going to be due on this IRA. So 40,000, today might translate to

$120,000 in taxes due 10 years from now. And as we're all

wanting our parents to live nice, long lives, this might not

be 10 years, it might be 20 years, 25 years. So you could

see how this really could build up and be a very, very large tax

liability down the road that you might be having to pay at some

point. This growth, remember is happening regardless. But what

if we can kind of change where it is growing? If your parents

do small, what are called Roth conversions every year so moving

part from this traditional IRA, into a Roth IRA, the Roth IRA is

going to grow tax free. The amount of the conversion, let's

say they converted 5000, that 5000 that's converted would be

taxed today and your parents would have to be paying that tax

today. If they're able to pay the tax on that now, in their

maybe lower retirement brackets potentially and in addition to

that, now all the growth is going to be tax free. So again,

it is going to grow regardless, so a case can certainly be made

for paying the tax today, so that future growth can be tax

free. So let's just say as another example, just to further

illustrate that point, we had the $200,000 IRA. If we looked

at it right now with a 20% tax bracket, that would be $40,000

in tax. Let's say that all of that was converted today that

$40,000 was paid not recommending that, but just

again, keeping the math simple. Now when that $200,000 account

reaches $400,000, in 10 years from now, all of that now is

going to be tax free to you. So that's a really, really, really

big difference. Inherited Roth IRAs still have to be

distributed fully in 10 years as per the new rules. However, you

can just wait until year 10 build up as much tax free growth

as possible, and cash out without any tax implications

whatsoever. Whether or not this is a good fit for someone

absolutely requires some additional planning though; what

investments they may need or not, what funds they may have on

the side to help in paying the tax, or even if minimizing taxes

paid to Uncle Sam for their children is even a goal. Maybe

this is just too much of a hassle for them and they could

be of the mindset of whatever they get when I'm not here is

what they get. And honestly, that's fair too. For those that

do have it as a goal though, it can really be a well worth

discussion, potentially saving 10s of 1000s of dollars in taxes

paid over the long term.

So the recap for today is realize that inherited IRAs or

retirement accounts have unique rules if and when you inherit

them. However, your parents do still have some powerful options

in minimizing that tax potentially. Ask your parents

'Did you hear about how they significantly changed the rules

for for people inheriting IRAs? Do you know if your plan is set

up to properly try and help minimize or reduce these total

taxes being paid long term, mom or dad?'

Thanks very much for tuning in today. As always, if you're able

to implement what we're covering, then that's always

fantastic. You have less to worry about than before and you

can focus more on enjoying life today. If you are wanting help

with these things though or have questions you need help and

clarifying check out the Ask Joe section on the show's website

www.enjoymore30s.com that's enjoy more three zero s.com. If

you enjoy this specific episode, please make sure to subscribe

and review us on Apple podcasts or wherever you listen. There

are literally millions of young American families out there I'm

trying to reach and help just like you. The next episode is

the last in this Your Parent's Money Mindset series, titled

Retiree Healthcare for Parents, A Lot Is Not Covered, where

we're going to share some basics on Medicare, Medicaid, and

probably most importantly, what they don't cover when it comes

to long term care. Until next week. Thanks for joining me

today and I look forward to connecting with you again soon.

The conversations on this show are

Joe's opinions and provided for general information purposes

only. They do not constitute accounting, legal, tax or other

professional advice for your specific situation. You should

always seek appropriate advice from a financial advisor,

accountant, lawyer or other professional before acting upon

any content or information found here first. Joe is affiliated

with New Horizons Wealth Management, LLC, a branch office

of TFS Securities Inc. and TFS Advisory Services an SEC

registered investment advisor member FINRA/SIPC.