By Andy Ives, CFP®, AIF®
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Dear Mr. Slott,
I have a client who, during 2022, was separated from employment, turned 55, and took a distribution from his former employer’s 401(k) account. We properly used the Rule of 55 exception to avoid the 10% early withdrawal penalty. During 2023 (without consulting me), he rolled the remaining balance of that former employer’s 401(k) account into an IRA, and THEN took a distribution from that IRA account. Does the 10% penalty apply to this distribution?
Your client should have consulted with you prior to the rollover or subsequent distribution from the IRA. The age-55 penalty exception is only applicable to the plan where the person separated from service at age 55 or later. If those plan dollars are then rolled over to an IRA, the exception is lost. The age 55 exception is never available for distributions from IRAs. In the scenario you described, the 10% penalty will apply to your client’s IRA withdrawal, unless another exception applies.
We have a client that passed away with an IRA from which he was taking RMDs. In addition, the deceased client had an inherited IRA from his mom…she passed several years ago (pre-2020) and he was taking life expectancy RMD’s from the inherited account. For his three heirs, can we combine his own IRA and his inherited IRA into one account for each of them? Under current rules, the heirs will have to clean out both accounts in ten years (as well as take life expectancy distributions in years 1-9). From an administrative perspective, since all the accounts have to be fully depleted in ten years, it would be much easier not to have an additional three inherited accounts for each of the beneficiaries.
No, you cannot mix the inherited IRA with the deceased client’s own IRA. Two separate inherited IRAs will have to be set up for each of the 3 beneficiaries (6 accounts total). Each beneficiary will receive an inherited IRA from the deceased client (as the direct beneficiary), and the inherited IRA that the client inherited from his mom (they are successor beneficiaries on this IRA – the beneficiaries of the beneficiary).
Each inherited IRA of your client’s OWN account will have to be emptied under the 10-year rule. In addition, each of these inherited IRAs will be subject to RMDs for years 1-9 of the 10-year term. These RMDs will be based on the beneficiaries’ own single life expectancy.
For the successor beneficiary accounts, each beneficiary will use the deceased client’s remaining term for years 1-9, not their own ages. In essence, each beneficiary will “step into the shoes” of the deceased and continue his exact same RMD schedule for years 1 – 9, then deplete the account at the end of year 10.