IRA Beneficiary Accounts—Are You Doing This Essential Step?
Beneficiary distributions are one of the most common and confusing transactions with IRA administration. Because of the complexity, determining where to begin can be daunting. Your organization is responsible for making accurate separate accounting available for IRA beneficiaries, which generally is the first step in the beneficiary distribution process. By timely establishing separate accounts, your organization ensures that beneficiaries have the most distribution options available and provides more equitable options for multiple beneficiaries.
Defining Separate Accounts
Separate accounts are separate portions of an IRA, which reflect the separate interests of the beneficiaries as of the date of the IRA owner’s death. Separate accounting may reflect different investment assets for each separate account, where gains and losses are allocated only to that account. Or the assets may be commonly held, where gains and losses are allocated on a pro rata basis to each beneficiary. This latter scenario typically is the way that multiple beneficiaries’ ownership begins upon their inheritance of the IRA assets.
Separate Accounting Gives the Most Options
The IRS provides rules for beneficiary separate accounting in Treasury regulations (Treasury Regulation 1.401(a)(9)-8), and beneficiary distribution payments differ in some regards if accounts are not separated.
Benefits to Spouse Beneficiaries
If separate accounts are set up timely, a spouse beneficiary who is not the only designated beneficiary of the IRA will retain the right to transfer his or her portion of the decedent’s IRA to the spouse beneficiary’s own IRA. If separate accounts are not set up timely and the spouse is not the only designated beneficiary, the spouse beneficiary may not transfer the assets, but retains the ability to take a death distribution and roll over the assets to her own IRA.
Benefits to Nonspouse Beneficiaries
If beneficiary accounts are recognized as separate accounts, each beneficiary is the sole designated beneficiary of her account and generally can use her own single life expectancy to calculate life expectancy payments. If beneficiary accounts are not recognized as separate accounts, the life expectancy of the oldest designated beneficiary must be used to calculate life expectancy payments.
Establishing Separate Accounts
The actual establishment of the separate accounts is a processing issue, which the IRS does not address. Each financial organization will have its own procedure for entering the account on its computer system. Remember the following points when setting up separate accounts.
The deadline to establish separate accounts in order to give beneficiaries the greatest range of options is December 31 of the year following the year of the IRA owner’s death. This allows each of multiple beneficiaries to calculate single life expectancy payments based on their own ages.
An IRA beneficiary does not have to authorize the establishment of a separate account. Once you are notified of the IRA owner’s death, a separate account can be entered on your system. A beneficiary need not sign new IRA opening documents (unless the inherited IRA assets are transferred in from another financial organization). A separate account is not a new IRA; it is an account held under a deceased person’s IRA. However, some financial organizations do prefer that a new document be signed and may even have one that is specific to beneficiaries, such as the Ascensus® Inherited Individual Retirement Account Simplifier®.
The movement of assets from a deceased IRA owner’s account into the account of a beneficiary is not reported to the IRS—it simply is an internal transfer of the assets.
After the separate account is in place, any reporting is generated in the name and Social Security number of the beneficiary. For example, each year that assets remain in the beneficiary’s separate account as of December 31, a Form 5498, IRA Contribution Information, should be generated in that beneficiary’s name (as beneficiary of the IRA owner) and Social Security number. And the Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc., will be processed to report any distributions to the beneficiary.
Note: The IRS has previously stated in oral guidance that generating separate Forms 5498 for multiple IRA beneficiaries would be considered by the agency to satisfy their standard for separate accounting.
