23-Nov-20
SECURE Act – Eligible Designated Beneficiaries
Take-Away: While the SECURE Act pretty much eliminated stretch IRAs for most beneficiaries, it created exceptions for surviving spouses, those who are disabled and chronically ill, minors of the deceased IRA owner, and those designated beneficiaries who are less than 10 years younger than the deceased IRA owner. This last exception to the required 10-year payout is a bit of a head-scratcher.
Background: The SECURE Act pretty much eliminated the lifetime distribution of an inherited IRA for most designated beneficiaries. Those situations where the designated beneficiary may still continue to take distributions from the inherited IRA using their life expectancy to calculate the distribution are now called eligible designated beneficiaries. These exceptions are pretty narrow. The eligible designated beneficiaries include: (i) the decedent’s surviving spouse; (ii) the child of the decedent, up until age of majority (18 years) or apparently longer if the child is a full time student, until age 26; (iii) a disabled individual, following the rigorous definition of disability used for social security disability benefit eligibility; (iv) a chronically ill individual; and (v) a beneficiary who is less than 10 years younger than the deceased IRA owner.
The less than 10 years younger than the deceased IRA owner exception makes some sense if the IRA owner is in their 70’s or 80’s when they die, since the life expectancy of the beneficiary is probably not too long a period over which the beneficiary can take annual required minimum distributions from their inherited IRA. A much younger IRA owner who dies and names a younger beneficiary could create a more unfair situation.
Example: Barry dies at age 44 without a spouse or any children. Barry therefore names his two brothers, Maurice and Robin as the beneficiaries of his IRA. Barry’s IRA had a balance of $800,000 at the time of his death. Barry leaves his IRA in equal shares to Maurice and Robin. Maurice is age 35 and Robin is age 34. Since Maurice is less than 10 years younger than Barry, Maurice can take required minimum distributions from the inherited $400,000 IRA over his life expectancy, or about 50 years; Maurice is an eligible designated beneficiary. Because Robin is more than 10 years younger than Barry, Robin must take his entire inherited IRA over the next 10 years, or on the 10th anniversary of Barry’s death. Only one year age difference between Maurice and Robin, yet the economic impact of taking required minimum distributions from their respective inherited IRAs is miles apart.
Conclusion: We probably need to bring to client’s attention the possible disparity in distribution options when siblings are named as IRA beneficiaries when there is an age difference of less than 10 years for one sibling, but not the other. Maybe the younger sibling receives more non-retirement assets if the goal is to treat each sibling beneficiary equal to the other in the size of the inheritance that they receive.