If you've recently begun planning your estate, you may be wondering about the tax and basis implications of passing along certain types of retirement and investment accounts to your heirs. There are a number of different types of retirement and tax-deductible investment accounts, and it seems each one has different rules when it comes to being passed from one generation to another through probate. Fortunately, there is some guidance available for the most common types of accounts. Read on to learn more about how certain accounts are treated when they pass along from you to your heirs.
If your spouse inherits your traditional IRA, he or she should be able to roll it over into his or her own IRA, adding it to his or her planned distribution. If a non-spouse family member inherits a traditional IRA, he or she must either liquidate the IRA and pay any owed taxes within 5 years of inheriting, or take the IRA payouts on a regular schedule during his or her own retirement (again paying any taxes owed on the withdrawn amount).
A Roth IRA is one of the most valuable assets in your estate, as it is permitted to pass to your heirs entirely tax free. Because your Roth IRA contributions are made after you've paid taxes on the contributed funds, the contributions and any gains may be withdrawn after retirement age without paying taxes. Even if you pass away before hitting retirement age, your Roth contributions and gains can be withdrawn tax-free by your heirs.
Because of the relatively high contribution limits when compared to other retirement and tax-advantaged accounts, your 401(k) account may be the biggest proportion of your estate. However, there are specific rules set by each 401(k) administrator, as well as the federal government. In general, your heirs will be able to withdraw funds from an inherited 401(k) account at any time during the probate process and will have to pay regular income taxes on these withdrawn funds.
Health Savings Account (HSA)
Your HSA is treated very differently, depending upon the person to whom it is transferred. If your spouse inherits your HSA, he or she is able to use it to pay medical expenses for the rest of his or her life and may also continue to contribute to it if he or she is covered under a high deductible health plan. If your children or other heirs inherit the account, it will no longer be an HSA account and withdrawals from the account may be taxed.
For more information, contact an estate planning attorney.