There Are Advantages to Inheriting a Spouse’s IRA--and More Factors to Consider

Q. I am the beneficiary on my husband’s individual retirement account. He is terminally ill. When I inherit his IRA, do I have to pay taxes on it immediately? May I transfer it to my IRA?

--M.D.

A. A surviving-spouse IRA beneficiary has certain advantages in inheriting an IRA that are not available to other beneficiaries.

As a surviving spouse, you may elect to treat the IRA as your own by rolling it over to an IRA in your name. You may then make contributions to this account as otherwise permitted. (This is the preferred course of virtually all surviving spouses.)

The principal advantage in treating an inherited IRA as your own is that if you are younger than 70 1/2, you may defer the start of mandatory withdrawals until April 1 of the year following the year in which you turn 70 1/2. Even if you are over age 70 1/2 at the time of the inheritance, you can set the amount of your minimum distribution when you select your beneficiary. (The younger the beneficiary, the less you must withdraw each year.) Of course, all distributions from the account will be taxable, and any made before you turn 59 1/2 may be subject to the 10% federal and 2.5% state penalties for early withdrawal.

A surviving spouse may also elect to leave the account in the deceased’s name and receive payments as the beneficiary. In this case, distributions received before you turn age 59 1/2 are not subject to federal and state penalties for early withdrawal. The payout period from the account depends on the age of the deceased and the method he or she was using to receive account disbursements, if there were any.

If the deceased died after the date of mandatory distributions and you elect to leave the account in his or her name, the beneficiary generally must make withdrawals at least as often as the deceased was making them.

If the deceased died before reaching the mandatory distribution age, the IRA will usually allow the beneficiary to withdraw funds over his or her life expectancy or to withdraw the entire account balance by the end of the fifth year after the death. The exact method of disbursement depends on the terms specified by the IRA.

By the way, a non-spousal beneficiary of an IRA is not allowed to treat the IRA as his or her own, and disbursements from the account must begin within at least five years of the deceased’s death. Distributions received by beneficiaries under age 59 1/2 are not subject to federal and state early-withdrawal penalties.

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Q. My husband’s employer doesn’t have an employer-sponsored saving plan such as a 401(k). How can my husband open a pretax individual retirement account? We know how to set one up through a brokerage firm using after-tax contributions, but we don’t know how to set one up with pretax contributions.

--M.H.

A. The simple answer is that you use the same process establishing a pretax IRA as you would an after-tax IRA. The only difference is in the reporting of the contributions to the Internal Revenue Service.

You don’t have to report an after-tax contribution to the IRS, but you do have to report a pretax contribution (on line 15A of the current 1040 form).

Q. Would you please tell me how I can find out about upcoming initial public offerings of stock by individual companies?

--A.Y.

A. Your broker should be able to provide you with a list of scheduled IPOs, as they are known in the industry. Other sources of this information include financial and general-interest newspapers, such as the Wall Street Journal, Investors Daily and the New York Times, which regularly report scheduled IPO sales.

For the Record: Last week’s column on a grandfather’s gift of appreciated stock to his grandchildren contained erroneous advice. Donors may not make gifts of appreciated stock and pay the government the capital gains tax on that appreciation without first selling the shares.

Even though the government is cheated out of nothing and recipients receive a gift without accumulated tax liabilities, the system does not accommodate such maneuvers; there must be a transaction, stresses Los Angeles tax attorney Ken Feinfield of McKenna & Cuneo, before there can be a tax.

So, what can Grandpa do now, since he admitted that he already gave the shares and paid the tax? He can file for a refund.

Presuming that we’re talking about small values, the most important thing to remember is that although the rules have technically been broken, no one has been harmed. And the government is actually better off, because it has received its tax payment early. (Stockbrokers might disagree, because the required transaction would have to pass through a broker to meet the technical requirements of the law, but we’re presuming this is a small-time deal.)

Carla Lazzareschi cannot answer mail individually but will respond in this column to financial questions of general interest. Write to Money Talk, Business Section, Los Angeles Times, Times Mirror Square, Los Angeles, CA 90053, or e-mail carla.lazzareschi@latimes.com