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I know, I know – who would want to disclaim an inherited IRA, right?
Well, it happens a lot more often than you think – for many reasons. An individual may disclaim an inherited IRA to keep from loading one beneficiary’s estate with too many assets. Or maybe to even things out, make it more equal, for all common beneficiaries. Whatever the reason, the IRS has rules associated with disclaiming an inherited IRA, and as usual, there is no sense of humor if you foul it up.
Generally, a beneficiary disclaiming an inherited IRA is pretty straightforward – spelled out in Internal Revenue Code §2518, as long as the primary beneficiary executes a written instrument to disclaim all or a portion of the inherited IRA within 9 months of the death of the original account owner, the contingent beneficiary(s) will inherit the remaining account.
One additional little wrinkle – the primary beneficiary cannot have received a benefit from the account prior to disclaiming. And one other thing that complicates matters… according to the rules, if the decedent was already subject to Required Minimum Distributions (RMD), the beneficiary must continue those distributions in a timely manner.
So if you’ve been following this, maybe you see the issue: let’s say that the IRA owner dies in November, and has not taken his RMD for the year. The primary beneficiary has not had an opportunity to consider whether or not it makes sense to disclaim the inherited IRA or not, and the year-end is closing fast. So, the RMD is distributed to the primary beneficiary. According to the rules, this beneficiary has now received a benefit from the account, so she shouldn’t be able to disclaim, right?
The good news is that Revenue Ruling 2005-36 clarified, simplified, and made everything square on this issue. Within this ruling, the IRS recognizes that sometimes these situations come about, so they’ve allowed for RMD for the year of death to be distributed to the primary beneficary but not counted as a “benefit” for the purpose of disclaiming rule. So in other words, the RMD doesn’t disqualify the primary beneficiary from having the option of disclaiming.
In addition, RR 2005-36 clarified a couple of other situations, wherein a primary beneficiary could disclaim a portion of an inherited IRA, allowing that portion to flow to the contingent beneficiary(s). This can be done as a specific (pecuniary, to use the IRS’ parlance) dollar amount, or a percentage of the account as of the date of death.
That part is important to note, because when a portion of the account is disclaimed, any income attributable to that disclaimed amount has to be disclaimed as well. So if the account was worth $100,000 on the date of death, and the primary beneficiary disclaimed 25%, then the primary beneficiary would receive $75,000 plus the gains or minus the losses associated with that amount. The remainder would go to the contingent beneficiary(s). If an RMD is paid to the primary beneficiary and the primary beneficiary later disclaims a portion of the account, the RMD is counted as part of the primary beneficiary’s non-disclaimed portion.
It’s complicated, so if you have additional questions, just hit me up in the comments – I’ll do my best to help clarify things.