World Stock Watch

Retirement Planning: Understanding Inherited and Spousal IRAs

When it comes to retirement planning, there are various tools and strategies to help you achieve your goals. Two often-confused options are inherited IRAs and spousal IRAs. While they share some similarities, they serve distinct purposes and are applied in different situations.

What is an Inherited IRA?

An inherited IRA is a type of retirement account that is passed on to a beneficiary after the original account holder’s death. The key feature of an inherited IRA is that it allows the beneficiary to continue benefiting from the tax advantages associated with the original IRA. Whether the original account was a traditional IRA or a Roth IRA, the inherited version maintains similar tax-deferred or tax-free growth benefits.

Tax Implications of Inherited IRAs

The tax treatment of an inherited IRA depends on the type of account and the beneficiary’s relationship to the original owner. For Traditional IRAs, distributions are generally subject to income tax, while Roth IRA distributions are typically tax-free if the account was held for at least five years. Beneficiaries of an inherited IRA should carefully plan their withdrawals to manage their tax liabilities effectively.

What is a Spousal IRA?

A spousal IRA allows married couples to maximize retirement contributions, even if one spouse does not earn an income. Typically, this would not be possible with a regular IRA, because the account holder must have earned income to make contributions. The spousal IRA lets working spouses contribute on behalf of a non-working or low-earning spouse to an IRA.

Key Distinctions Between Inherited and Spousal IRAs

While both types of IRAs involve spouses, they serve entirely different purposes and are applied in different situations. Here are four key distinctions:

• Purpose: Spousal IRAs are for active contributions during a couple’s lifetime, while inherited IRAs come into play after the account owner’s death and focus on distributing assets.
• Eligibility: Spousal IRAs require that the couple file taxes jointly, and contributions are subject to annual IRA contribution limits. Inherited IRAs arise after the death of the original account owner, with specific rules for distributions and required minimum distributions (RMDs).
• Contributions: Spousal IRAs allow contributions to continue as long as the working spouse has earned income and meets contribution limits. Inherited IRAs do not permit new contributions; the account is for distributing inherited assets.
• Withdrawal Rules: Spousal IRAs follow standard IRA rules for withdrawals, including penalties for early withdrawals before age 59½. Inherited IRAs have different distribution rules based on whether the beneficiary is a spouse or non-spouse, including options to delay RMDs or take distributions over time.

Navigating Inherited IRAs as a Spouse

Inheriting an IRA as a spouse can be a complex process. Here are four useful tips to help unpack your options:

• Consider Rolling Over the IRA: As a surviving spouse, you have an option to roll over the inherited IRA into your own IRA. This allows you to treat the funds as your own, potentially delaying required minimum distributions (RMDs) until you reach age 73.
• Understand the Tax Implications: Inherited IRAs come with specific tax rules that can impact your financial planning. Withdrawals from a traditional IRA are generally taxable as ordinary income, so it’s important to plan for potential tax liabilities.
• Review Your Financial Goals and Needs: Before making any decisions, assess your current financial situation and long-term goals. Consider how the inherited IRA fits into your overall retirement plan and whether you need immediate access to the funds.
• Seek Professional Financial Advice: Navigating the complexities of an inherited IRA can be challenging. A financial advisor can provide personalized advice, helping you understand the implications of each option and ensuring that your decisions align with your financial objectives.

Getting Professional Guidance

A financial advisor can help you determine when is the best time to claim Social Security and manage other factors to maximize your retirement. With the right guidance, you can make informed decisions about your inherited IRA and create a comprehensive retirement plan that meets your needs.