I tell every client to remember one thing about Washington: Whatever Congress names a new law, expect it to do the opposite. The SECURE Act is a perfect example. For most families, it secured very little. Starting January 1, 2020, it ended the “stretch IRA,” which let heirs spread withdrawals over their lifetimes, and replaced it with a 10-year deadline.Consider Lisa, a hypothetical heir who inherits a $500,000 traditional IRA from her father at 55. She and her husband earn $200,000 a year, and she doesn’t need the money, so her plan is to leave it alone and let it grow. It feels prudent. It could hand the IRS about a third of her inheritance.Lisa’s instinct is the one I see most often, and it’s one of five mistakes that quietly shrink inheritances. Each has a fix, and most fixes come down to decisions made in the first year.1. Assuming you can ignore the account until year 10Lisa’s first question should be whether waiting is even allowed. As an adult child, she falls under the 10-year rule. (Spouses and a few other heirs get more flexible options.) Her account must be empty by December 31 of the 10th year after her father’s death.Whether she also owes a withdrawal every year depends on her father’s age at death. If he died before his required beginning date for required minimum distributions (RMDs), she has no annual minimum in years one through nine. About Adviser IntelThe author of this article is a participant in Kiplinger’s Adviser Intel program, a curated network of trusted financial professionals who share expert insights on wealth building and preservation. Contributors, including fiduciary financial planners, wealth managers, CEOs and attorneys, provide actionable advice about retirement planning, estate planning, tax strategies and more. Experts are invited to contribute and do not pay to be included, so you can trust their advice is honest and valuable.If he died on or after it, IRS rules that took effect in 2025 require annual RMDs on top of the deadline. Miss one, and the penalty is 25% of the shortfall, or 10% if corrected in time.The fix: In the year you inherit, ask the custodian whether the original owner had started RMDs, and get your annual requirement in writing.2. Waiting until year 10 because you don’t need the moneyNow say Lisa’s father died before his required beginning date, so she’s free to wait. That’s when the tax time bomb starts ticking. At a hypothetical 7% annual return, her $500,000 grows to about $984,000 in 10 years.If she withdraws it all in year 10 while still earning $200,000, the IRS sees nearly $1.2 million of income that year. Using 2026 tax brackets for married couples filing jointly, the withdrawal alone would trigger about $322,000 in federal income tax, an average rate of roughly 33%, with about $383,000 taxed at the top 37% rate. The only family member who appreciates that plan is Uncle Sam.If she instead took about $71,000 a year, enough to empty the account over 10 years at the same return, each withdrawal would top out in the 24% bracket, for an average federal rate of about 23%. That’s roughly 10 percentage points less tax on every inherited dollar. (These figures hold today’s brackets and income steady and are illustrations, not forecasts.)The fix: Not needing the cash is a reason to reinvest withdrawals in a taxable account, not a reason to postpone them.3. Assuming equal withdrawals are always the answerEven withdrawals beat a year-10 lump sum, but they aren’t automatically Lisa’s best option. Her income won’t stand still for a decade.If Lisa plans to retire five years after inheriting, she may do better taking only what’s required while her paycheck is high, then larger withdrawals in years six through 10, after it stops. If she’ll work through the whole window, roughly one-tenth of the balance each year, adjusted for growth, usually wins.The fix: Build a year-by-year income projection for the 10-year window, aim the largest withdrawals at your lowest-income years and revisit the plan annually.4. Assuming a Roth conversion always helps the familyLisa’s story holds a lesson for parents, too. The comment I hear most from parents is, “If I convert my IRA to a Roth, the problem is solved.” Maybe. It depends on whose tax rate is higher.A Roth conversion is taxable income to the parent now. If your rate is lower than your children’s will likely be, converting all or part of your IRA can make sense. If your rate is much higher and your kids expect modest incomes, leaving them traditional IRA dollars may be smarter. For estates facing estate tax, there’s a bonus: The conversion tax shrinks the taxable estate.Timing is everything here. A nonspouse heir can’t convert an inherited traditional IRA to a Roth, so the window closes when the parent dies.The fix: Compare your tax rate with your children’s expected rates. If yours is lower, consider converting a slice each year rather than all at once.5. Overlooking what an inherited Roth can doHad Lisa’s father converted, her choices would look completely different. Heirs under the 10-year rule must still empty an inherited Roth by the deadline, but they owe no annual RMDs along the way, regardless of the owner’s age at death. They can withdraw at any time, and qualified withdrawals are tax-free. What other investment do you own that can grow for up to 10 years and then pay out tax-free?That flips the lesson from mistake number two. With a Roth, waiting is usually the smart move. One caution: If the original owner opened their first Roth less than five tax years before a withdrawal, the earnings may be taxable.The fix: If you inherit a Roth and don’t need the money, let it grow and withdraw near the deadline, after confirming the five-year clock has run.Looking for expert tips to grow and preserve your wealth? Sign up for Adviser Intel, our free, twice-weekly newsletter.Make the 10 years work for youThere’s no one-size-fits-all answer for an inherited IRA, but there is a wrong one: Doing nothing for nine years and letting the deadline decide. Lisa’s $500,000 grows the same either way. What changes is how much of it reaches her family.If you’re a parent, run the numbers on partial Roth conversions while the choice is still yours. If you’re an heir, use year one to confirm your RMD rules, project your income and circle the years with the most room in lower brackets. Ten years sounds like plenty of time. It goes fast, and Uncle Sam is counting on you to wait.Related ContentInherited an IRA? The 3 Decisions That Could Cost You ThousandsIf You Inherited an IRA, Don’t Fall Into the 10-Year Tax TrapI’m a Financial Planner: If You’re Not Doing Roth Conversions, You Need to Read This3 OBBBA Tax Provisions Wealthy Families Should Act on Now, From a Financial ProNow That You’ve Built Your Estate Planning Playbook, It’s Time to Put It to WorkThis article was written by and presents the views of our contributing adviser, not the Kiplinger editorial staff. You can check adviser records with the SEC or with FINRA.
5 Costly Inherited IRA Mistakes That Drain Your Account
