Can an Inherited IRA Be Split Between Siblings?
If you and your siblings are the heirs to an IRA, or individual retirement account, the short answer is yes, you can split it per the instructions of the deceased. You could also choose to jointly manage a single inherited IRA. However, there are a host of rules and regulations that apply to splitting an inherited IRA with your siblings, and failing to comply with deadlines and restrictions could result in taxes and/or penalties.
Here’s a look at the process of splitting an inherited IRA with your siblings, including some of the pitfalls that you’ll want to avoid.
See Also: The Surprising Way You Can Get Guaranteed Retirement Income for Life
What Is an Inherited IRA?
Structurally speaking, an inherited IRA is the same as a regular IRA. In other words, assets in the account grow tax-deferred, and distributions are either fully taxable, in the case of inherited traditional IRAs, or tax-free, in the case of inherited Roth IRAs.
But there are important rules that apply to IRAs when siblings inherit them that aren’t otherwise applicable to regular IRAs.
While spouses can simply take over inherited IRAs as their own, other beneficiaries, such as children of the deceased, cannot. Rather, money that is inherited from a parental IRA must instead funnel into special beneficiary IRAs, one for each sibling, or into a single IRA that is for the benefit of more than one sibling. Distribution rules vary depending on the nature of the beneficiary.
Why Split an Inherited IRA?
Splitting an IRA among heirs is often the best choice for parents so that there is no dissension or in-fighting among siblings about the inheritance. As benefactors are the ones who select their own beneficiaries, they are the only ones who can “order” an IRA to be split among siblings. In fact, beneficiary designations on IRA even trump probate hearings — IRA assets pass outside any probate hearings or determinations, transferring in accordance with the beneficiary designation on the account.
The challenge of inheriting an IRA and splitting it among siblings doesn’t usually come at the point of transfer. Rather, it’s when the assets are distributed that some problems can arise.
IRS Rules for Splitting Inherited IRAs
The only “rule” that applies to splitting an inherited IRA is that the assets must be distributed in accordance with the decedent’s stated wishes on the actual account. However, there are quite extensive rules when it comes to the minimum distributions that are required of inherited IRAs, including among siblings. These rules were updated in 2020, so if you had made plans for an inherited IRA more than a few years ago, they may need a refresh.
According to the IRS, there are three types of non-spouse beneficiary options: eligible designated beneficiaries, designated beneficiaries and beneficiaries that are not individuals, such as a trust.
An “eligible designated beneficiary” has at least one of the following three characteristics:
They are the spouse or minor child of a decedent
They are chronically ill or disabled, and
They are not more than 10 years younger than the IRA owner
This scenario doesn’t generally apply to siblings splitting an inherited IRA, unless they are minors. Instead, sibling heirs are usually “designated beneficiaries.” However, if minors do inherit an IRA, they can begin taking withdrawals annually based on their own life expectancy until the time they reach age 18, at which point they must follow the rules of designated beneficiaries.
As designated beneficiaries, you and your siblings will have to follow the 10-year rule when splitting the inherited IRA. What this means is the money must be withdrawn in full within 10 years.
When you inherit an IRA, you are still responsible for required minimum distributions annually. The 10-year mandate to completely empty the account is on top of this RMD requirement. This means that while you can take out as much as you would like in any given year, you must at least take out a minimum amount based on IRS life expectancy tables. In other words, you can’t keep all of the money in the inherited IRA and then take it all out at the last minute in the 10th year.
How To Split an Inherited IRA Between Siblings
The actual process of splitting an inherited IRA is fairly straightforward.
First, you’ll need documentation on the account showing who the beneficiaries are. If none exist, the IRA will have to go through probate to have local courts determine the appropriate distribution. However, most IRA companies and brokerage firms these days require account holders to designate beneficiaries at the time they open the account, so this is the likely path for both.
Next, you and your siblings will have to set up individual beneficiary IRAs so that you can receive the split proceeds of the original account. Money will be distributed in accordance with the beneficiary designations on the original account or the instructions of the probate court.
If you are splitting an inherited IRA, the transfers to individual beneficiary IRAs must occur no later than Dec. 31 of the year in which the IRA is inherited.
Tax Implications of Splitting an Inherited IRA
There are no tax implications to inheriting an IRA, as long as the assets are housed in a beneficiary IRA. This is true whether the beneficiaries use a single inherited IRA or if they split it into their own individual beneficiary IRAs. However, there are scenarios in which an inherited IRA can result in relatively severe tax consequences.
The most obvious is if you fail to take your required minimum distribution from the inherited IRA every year. This triggers a stiff 25% penalty of the amount that you should have withdrawn. For example, if you are required to take $5,000 out of your inherited IRA every year and fail to do so, you’re facing a penalty of $1,250 per year. While that may seem onerous, it’s actually a reduction from the 50% excise tax that was in place before 2023. Note that if you do make this mistake and correct it within two years, however, the penalty drops to 10%.
However, if you fail to empty your inherited IRA within the 10-year period, that 50% penalty still applies to whatever balance remains in the account. Although this rule is currently suspended until 2025 during a “transition period,” it will ultimately mean that if you leave $10,000 in an inherited IRA after 10 years, you’ll owe a penalty tax of a whopping $5,000.
Common Mistakes to Avoid
As outlined above, there are numerous rules and regulations you’ll have to follow to successfully split an inherited IRA with your siblings. One of the most common mistakes that you’ll want to avoid is that you must make the transfers to individual beneficiary IRAs by Dec. 31 of the year following the inheritance.
You’ll also have to remember to take your required minimum distributions annually to avoid the significant 25% penalty. Most importantly of all, for designated beneficiaries, you’ll want to avoid the mistake of not withdrawing all the money from your inherited IRA within 10 years, or you’ll lose 50% of the remaining balance.
Best Tip for Managing an Inherited IRA
The bottom line is that you’ll want to work with a financial and/or tax advisor if you’re planning to split an inherited IRA with your siblings. As the ramifications for missing deadlines or otherwise failing to follow the correct procedure can be severe, it’s best to enlist the aid of a professional, particularly considering that the process of inheriting an IRA can also have a huge emotional component.
FAQs About Inherited IRAs and Splitting
Can you split an inherited IRA with your siblings?
Yes. You can either share a single inherited IRA or split it among your siblings. However, you must follow the instructions of the decedent or the probate court, whichever applies. And you'll need to perform the split by Dec. 31 of the year after you inherit it.
Should you split an inherited IRA?
Splitting an inherited IRA can be a good idea if at least one of the heirs is an eligible designated beneficiary and one or more are not. It's also a requirement to split it if it's in the instructions of the decedent. Splitting can also be a good idea to prevent infighting among beneficiaries, each of whom might feel entitled to a larger share of an inherited IRA or who may want to manage it more aggressively.
This article originally appeared on GOBankingRates.com: Can an Inherited IRA Be Split Between Siblings?
