401(k) Spouse Beneficiary
First, let’s look at the rules that apply when inheriting a 401(k) plan from your spouse.
If Your Spouse Was Over Age 72, and You Are Over Age 72
If your spouse was over age 72 (or 70 1/2 if they turned 70 1/2 before January 1, 2020) and had already started taking required minimum distributions (RMD) at the time of death, and you are also over your RMD age, the rule is that you must continue to take out at least the required minimum distributions. This could happen in a few ways:
You can roll the funds over to your own IRA, called a spousal IRA. With this option, you would take required distributions based on your age and the Uniform Lifetime Table. If you wish, you can take out more than this amount, but not less. You would name your own beneficiaries with this option. For most people, this is the best option. You can leave the money in the plan, continuing the distributions according to the required minimum distribution schedule that applied to your spouse. If you choose, you can take out more than this amount, but not less. The beneficiary designations set up by your spouse continue to apply. You can roll the funds over to a specific type of account called an inherited IRA. With an inherited IRA, you would take required distributions based on your single life expectancy table. If you want, you can take out more than this amount, but not less. You would name your own beneficiaries with this option.
If you and your spouse were about the same age, the choices above would result in about the same required distribution. However, rolling it over to your own IRA may provide additional options for your future beneficiaries.
If You Are Over Age 59 1/2 but Under Age 72
If you are the beneficiary of your spouse’s 401(k) plan and you are over age 59 1/2, but not yet at the required minimum distribution age, you have a few choices:
You can roll over the account into your own IRA. The potential advantage to this is you will not be required to start distributions until the calendar year after you reach your RMD age of 72 (or 70 1/2 if you turned 70 1/2 before January 1, 2020). This option provides additional flexibility because you can withdraw the money if needed, but you won’t be required to withdraw it until you reach your RMD age. You name your beneficiaries with this option. For most people, this is the best option.You can leave the funds in the plan. If your spouse was over age 72 and had started their distributions, you continue taking these required minimum distributions each year; or you begin taking them when your spouse would have reached their RMD age. The beneficiary designations set up by your spouse continue to apply with this choice.You can roll the funds over to a specific type of account called an “inherited IRA.” With an inherited IRA, you take required distributions based on your single life expectancy table. If you desire, you can take out more than this amount, but not less. You name your beneficiaries with this option.
If your spouse was older than you, you need to project your current and future income tax rate to determine if you should delay distributions until you reach your RMD age. You could also continue the annual required distributions if your spouse had already been required to start taking them.
If You Are Under Age 59 1/2
If you inherit a spouse’s 401(k) plan, but you are not yet age 59 1/2, consider the pros and cons of the following choices.
You can leave the money in the 401(k) plan. With this option, you can take withdrawals as needed and not pay the 10% penalty tax that typically applies to people younger than age 59 1/2. You will still pay regular income tax on any amount withdrawn. (If your spouse was over their RMD age, you would be required to continue the required minimum distributions.) The beneficiary designations set up by your spouse would continue to apply at your death. You can roll the funds over to a specific type of account called an “inherited IRA.” With an inherited IRA, you take required distributions based on your single life expectancy table. You can take out more than this amount, but not less. With this option, withdrawals are not subject to the 10% penalty tax even if you are not yet age 59 1/2 You name your beneficiaries with this option. You can roll over the 401(k) plan to your own IRA account. There will be no taxes on this transaction. However, if you are not yet age 59 1/2, you may not want to do this because once it becomes your own IRA, any distributions you take will be considered early distributions and subject to a 10% penalty tax as well as regular income taxes. You name your beneficiaries with this option.
For most people who are not yet age 59 1/2, the best choice will be the first or second of these options.
401(k) Non-Spouse Beneficiary
If you are the beneficiary of someone’s 401(k) plan but they were not your spouse, there are three possible choices.
If the Person You Inherited From Was Over Age 72
If the person you inherited the account from was over their required minimum distribution age and had already started taking required minimum distributions at the time of death, the rule is that you must, at a minimum, continue to take out at least these required minimum distributions, and if you desire, you can take out more than this amount, but not less. You can take these distributions out over the decedent’s life expectancy or your own, whichever is longer, according to the IRS required minimum distribution life expectancy tables. You should have the option to do this by leaving the money in the plan or rolling it over to an account titled an inherited IRA.
If They Were Not Yet Age 72
If the person you inherited the 401(k) plan from was not yet age 72 (or 70 1/2 if they turned 70 1/2 before January 1, 2020), the 401(k) plan will allow one or both of the options below:
The 401(k) plan may require you to take all of the money out of the plan no later than December 31 of the fifth year following the year of the person’s death. You could take a little out each year or wait until the last year to take it all. You will pay regular income taxes on the amount withdrawn, so you may want to take more out in years where you expect to be in a lower tax rate. The plan may allow you to take the money out in annual amounts over your life expectancy according to the required minimum distribution life expectancy tables. You may be able to do this by leaving the money in the plan or rolling it over to an inherited IRA account. This option is often referred to as a stretch IRA because if you are much younger than the person you inherited it from, you can stretch the distributions out over a long period.
