By Dan Moisand
Q: I’m supposed to pay a big chunk of taxes for money that I really didn’t receive since it was indirectly transferred to another IRA account when I inherited my aunt’s IRA after his death.
I received a check but it was immediately deposited into another IRA, I received a letter from the original institution stating that a lump sum had been withdrawn and it was a qualified account. The 1099R sent to me in January 2022 had a distribution code of “4”. I told them it was a rollover, but they wouldn’t change the distribution form. The financial adviser (where it was rolled over) said it was a qualified account to roll over and it makes no sense that I will be taxed twice every time I retire for the next 10 years.
Is there anything I could do to not be taxed as additional income instead of a tax-deferred IRA since it really was a rollover?
A. Hello Louise,
I am sorry to learn of your aunt’s death.
I’m not sure I’m giving good or bad news here. There are different forms of bearings. The main issue is who your aunt’s IRA check was made payable to. You will need to engage your tax preparer on how to file everything correctly.
If your aunt’s IRA check was made payable to a separate inherited IRA for your benefit and not for you individually, the transaction should not be taxed. Sometimes these transfers are referred to as a “direct roll”, which makes things confusing because a direct roll is different from a traditional roll.
In a traditional rollover, sometimes called an “indirect rollover”, money moves indirectly from one account to another. The check is made payable to an individual and if those funds go back into an IRA or qualifying retirement plan within 60 days, no tax is due. Only one traditional IRA-to-IRA rollover can be executed in a 12-month period.
Your question suggests that the check was payable to you as an individual. You may have thought you had 60 days to get it into another IRA, like you do with a traditional rollover. Normally this is true – except when inheriting.
Distributions to a non-spouse from an IRA after death are NOT eligible for the traditional rollover. If that check was payable to you individually rather than an inherited IRA for your benefit, the entire distribution is taxable to you.
Also, you said the funds went to another IRA. If so, and the original distribution check was returned to you, you likely made an “excess contribution” because the distribution was not eligible for traditional transfer to an inherited IRA. Only surviving spouses can incorporate a deceased’s IRA into their own IRA.
If you have made an excess contribution, those funds will need to move out of the IRA in which they currently reside. You will no longer have to pay tax on the funds, only once from the initial distribution. However, you may have to pay tax (plus a 10% penalty if you are under age 59.5 at the time of the correction) on any income generated by these funds while incorrectly in your IRA. Additionally, you may be liable for 6% excise tax on the excess contribution itself. The 6% is assessed each year, the excess remains in the account, so it must go out as soon as possible.
If you have a question for Dan, please email him with “MarketWatch Q&A” in the subject line.
Dan Moisand is a Financial Planner at Moisand Fitzgerald Tamayo and serves clients nationwide from offices in Orlando, Melbourne and Tampa Florida. His comments are for informational purposes only and cannot replace personalized advice. Consult your advisor to find out what is best for you. Some questions from readers are edited to facilitate the presentation of the topic.
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