Navigating Inherited IRA Withdrawals: A Tax-Savvy Approach
If you’ve inherited an IRA, you’re likely wondering how to manage the withdrawals while minimizing your tax liability. As a non-spouse beneficiary, you’re subject to a 10-year deadline to withdraw the funds, but you still have options to consider.
Understanding Your Withdrawal Options
You can choose to withdraw the entire amount at once, spread it out over the 10-year period, or find a middle ground. Each approach has its pros and cons, which we’ll explore below.
The Lump Sum Approach
Withdrawing the entire amount upfront can be tempting, but it comes with a significant tax hit. If you’re in the 32% tax bracket, withdrawing $450,000 could push you into the 37% bracket. However, you’ll have control over the remaining funds, which can be invested to grow at a lower long-term capital gains tax rate.
Pros:
- Take the tax hit now and invest the remaining amount
- Potential for lower long-term capital gains tax rate
Cons:
- Immediate tax liability
- Sacrifice 10 years of potential tax-deferred growth
- Risk of pushing yourself into a higher tax bracket
The Spread-Out Approach
Alternatively, you can choose to spread your withdrawals over the 10-year period. This approach can help keep your tax bracket and liabilities lower. While the growth of your account will be tax-deferred, the withdrawals will be taxed at your marginal income tax rate.
Pros:
- Easier to keep your marginal tax rate lower
- Reduced risk of timing the market poorly
- Potential for lower long-term capital gains tax rate
Cons:
- Growth on principal will be taxed at your marginal income tax rate
- Risk of being pushed into higher tax brackets in the future
The Importance of Flexibility
Tax laws and rates can change, and your personal financial situation may evolve over time. It’s essential to consider these factors when determining your withdrawal strategy. A financial advisor can help you navigate these complexities and create a personalized plan.
Additional Considerations
- Required minimum distributions (RMDs) may come into play if you don’t withdraw the money all at once
- Changes in tax laws and rates can impact your withdrawal strategy
- Your personal financial situation, age, health, goals, and lifestyle can influence your decision
Finding the Right Financial Advisor
A knowledgeable financial advisor can help you structure and coordinate your IRA withdrawals over the span of your retirement. SmartAsset’s free tool can match you with up to three vetted financial advisors who serve your area, allowing you to find the right fit for your needs.
Protecting Your Emergency Fund
Remember to keep an emergency fund on hand to cover unexpected expenses. A high-interest savings account can provide liquidity while earning compound interest. Compare savings accounts from top banks to find the best option for you.
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