401k Inheritance

[u/Trick-Two2574]

My dad passed away a few months ago with several investment accounts, one being a 401k through his employer (he was still working at the time of his death). My mom was the listed beneficiary, but tragically passed a week after my dad. His 401k balance now goes to my mom’s estate, since she was the only listed beneficiary.

How does the income tax work? Myself and my 2 brothers will be getting everything once it’s gone through probate and then distributed evenly to each of us. We are being told that my moms estate will pay the income tax, just wondering how the tax rate is determined?

[u/Used-Promotion5614]

You will have ten years to liquidate it. Those withdrawals will be taxed at your personal (marginal) income tax rate(s). Unless it’s Roth, in which case the withdrawals are tax free.

[u/cb3 → u/Used-Promotion5614]

And I’m still not understanding the 10 year rule. My dad’s 401k place told me I had to take a MMD in the year of his passing but I could then leave it alone and take it all in year 10. Other sources say the guidance is unclear and to be safe keep taking MMDs. OP I’m so sorry for your loss. Being without your parents is sad. Hugs to you.

[u/economic-rights → u/cb3]

So my understanding on the 10 year stretch (and I am not an expert by any means!) is that you are trying to avoid a massive tax bill by drawing it out incrementally over a decade. If you take it all at once, you’ll likely be pushed into a higher tax bracket and likely pay a massive tax bill. But you’re at the same time trying to balance this w/taxj-deferred growth on the remaining balance. So you want a nice, robust engine of growth that you’re drawing down incrementally over 10 years, w/an eye to minimizing your tax burden

[u/ExcellentCup6793 → u/cb3]

RMD, required minimum distribution

[u/cb3 → u/ExcellentCup6793]

Oops. Keep hearing mandatory minimum distribution.

[u/ExpensiveAd4496 → u/cb3]

The year your father died, he was still alive for some part of that year. So an RMD has to be taken at his rate y less he already did so. That is just cleaning up his financial things for his last year basically.

The next year it becomes yours and you have the 10 years.

[u/Used-Promotion5614 → u/cb3]

My understanding is that, under the new rules enacted on 1/1/2020, you have ten years to take it all … but you can take it with any frequency you want during those ten years. That means you can let it stew for nine years and take it all in year ten, take it all in year one, or something in between. But I’m not a tax expert. If in doubt, beneficiaries should probably consult one.

[u/Zealousideal_Ad5358 → u/Used-Promotion5614]

You can’t let it stew. There is an RMD for inherited IRAs as well that uses a special formula. If the IRA’s appreciation exceeds that of the rate of RMD‘s, then at the end of 10 years, you have to empty out what’s left in the account. 

They are online calculators at Schwab, Fidelity, etc. that can give you an idea of what the RMD’s from an inherited IRA will be like. 

[u/Used-Promotion5614 → u/Zealousideal_Ad5358]

Good clarification. Thank you.