The fourth phase is the distribution phase after you pass. Retirement money or qualified money has usually not been taxed to this point, except for Required Minimum Distributions and what you spend during retirement. During the distribution phase, whatever is left is passed to your intended beneficiaries.
When your beneficiary receives your IRA inheritance, it is taxed very heavily. In general, if someone inherits a $200,000 IRA, they will only receive about $120,000 – 150,000 on average. The total amount is added to their income taxes, which generally can raise them to the top tax bracket. Add in federal and local income taxes along with inheritance taxes and it can take about 40% off the top.
Then to top it off, if the total estate is worth more than $11,400,000, it’s taxed at 40% for federal estate taxes. With taxes, a sizable estate with a large IRA can be more than cut in half if not properly planned. Inherited IRAs can lose even more, up to 80% without a good plan. Don’t forget the Pennsylvania inheritance taxes of 4.5%, 12%, or 15%, depending on the beneficiary designated.
One option for IRA holders is to stretch the IRA over the lives of up to two generations, creating a much larger legacy. For instance, a $200,000 IRA can be stretched and pay out up to $5,000,000 to the next two generations, instead of a one-time distribution. There are several other options that are possible to create even a larger legacy, but they are more complicated and need to be discussed one on one with us. This Stretch Provision has the potential to be stopped by congress in the near future.
One other important note about distribution planning is the fact that a large amount of money received at one time can cause issues because most people aren’t used to handling or planning for a lump sum. It’s said that most inheritances are gone within 6 months, no matter the size. Sometimes it may be better to create a regular income stream rather than a lump sum.
This is an often-neglected part of planning, but a major part of our comprehensive plan.
For more understanding about inheritance strategies, we recommend reading “Splitting Heirs” by Ron Blue.
Call us today for a no-cost, no-obligation consultation at 724-837-3553.