If you inherit a big Individual Retirement Account, you have to be a little bit more careful about what you do with the money than with non-retirement money.   That is because the money you take out is taxable and it is possible that this extra money, which is added right on top of your existing taxable income, may put you into a higher tax bracket than you have ever been in.

What if I want to keep taxes to a minimum?  Well let’s take a look at a sample scenario:  You have inherited a $500,000 IRA and a $50,000 Roth IRA (“good job” to your parents building up some Roth money).   First of all you have to start taking Required Minimum Distributions so transfer the accounts to yourself as “Inherited IRA’s” (aka Beneficiary IRA’s).  This way the distributions will be based on your life span instead of your parent’s and be smaller.  Remember we are trying to keep taxes to a minimum.

What if I want to take out a lump some like $100,000 for something I’ve always dreamed of like a motorhome or to pay off my mortgage?  …should I bite the bullet, pay the taxes and pay off my mortgage so I don’t have a mortgage payment?  …or should I not do that so I can keep my mortgage interest deduction?  …or should I use all of the Roth money and $50,000 of the IRA money since the Roth comes out tax free?  …should I finance the motorhome instead of using my Inherited IRA money?

Ok, here is where is gets fun if you like running multiple “what if” financial planning scenarios.   I realize that, other than the CFP® professional community, very few people get excited by this, but it should be extremely interesting if it happens to be your financial situation.  

The answer will depend on your particular objectives as well as quite a few variables, but let me make a few points that could help:

  1. Don’t mess with the Roth.  Consider that timing the market is not as important as time in the market and what you leave in the Roth, ideally invested for some level of growth, is where you will get growth that is all yours.  In the IRA, the bigger it grows, the more the government will eventually get.  Speaking for myself, I can’t get enough Roth money that can grow tax free and come out tax free!  From an Inherited Roth IRA account, take out the very minimum based on your life expectancy, and, of course, if you qualify to contribute to a Roth, you could let those distributions flow right into your own Roth IRA account.
  2. Consider how protected your inherited retirement accounts are.  Like IRA’s, Inherited IRA’s protect wealth from creditors and if you have children, your IRA’s are not counted toward their FAFSA score, meaning they might get more financial aid.  Note, equity in your residence also offers protection from creditors and does not count against the FAFSA score.
  3. Know your tax rates.  Your tax advisor should be able to help determine what combined Federal and State rate a given withdrawal amount will be taxed at.  If need be, despite how much I like not touching Roth IRA’s, it may make just too much sense to take some of the money you need from the Roth if it keeps the money out of a high tax bracket.

Even if you do not enjoy running multiple “what if” financial planning scenarios, when it comes to pulling money out of Inherited IRA’s, it is worthwhile to get a CFP® professional on the case.  Ideally this is also the person with the right skill set to oversee the management of your assets and coordinate with your other financial professionals such as trust attorneys and tax advisors.   


What does it look like to work with a CFP® professional who is focused on simplifying your financial life while working with you on reaching your goals?  Click here to find out.

about the author: WorthPointe Wealth Management Team

WorthPointe is a fee only financial planning firm with offices in Austin, San Diego and Dallas / Fort Worth. Our advisors are credentialed, experienced and owners. Worthpointe provides advanced financial planning, investment consulting, tax planning, asset protection and insurance, estate planning, or charitable giving support.

Our team of CERTIFIED FINANCIAL PLANNER professionals has been quoted or published in The Wall Street Journal, San Diego Union Tribune, Financial Planning, Smart Money, Financial Advisor, Boomer Market Advisor, MSN Money, Wealth and Retirement Planner, thestreet.com, Bloomberg Wealth Manager, Del Mar Times, Money Magazine, MorningstarAdvisor.com and much much more.

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