Members of the Maryland Association of Certified Public Accountants are answering readers' tax questions through April 15.
Q: I have inherited an IRA from my father. Could you tell me what options I have with this IRA and what the tax consequences will be on each option? How do I show or prove the nondeductible portion of my father's IRA and can I get tax credit with that?
A: The answer is technical. Here are your options: If your father's death preceded his required start date to begin withdrawing funds (April following the year he was 70 1/2 ), there are two options: 1. The five-year rule applies. All funds must be removed by December 31 of the year containing the fifth anniversary of your father's death. Distribution may be taken in any amount at any time during this period; and 2. Distribution may be taken over your life expectancy (using the declining years method) beginning no later than December 31 of the year following the year of your father's death.
If your father's death was after he had commenced his IRA withdrawals, you must consider: 1. If your father calculated his required minimum distribution by the recalculation method using his single life expectancy, you must distribute the balance of the IRA by December 31 of the year following your father's death; and 2. If your father calculated his required minimum distributions using the declining years method, you must continue or accelerate the distribution payments.
You must determine if your father made any "nondeductible" contributions to his IRA. Examine several years of prior income tax returns. If such nondeductible contributions were made, you would report them as your basis in the IRA on Form 8606 in any year you make a withdrawal from the IRA. The form assists you in calculating your "taxable" portion of those withdrawals. There is no tax credit related to IRA withdrawals.
Once the taxable portion of the IRA withdrawal is determined, the timing of the distribution and its effect on your personal taxes can be evaluated. A lump-sum distribution could cause you to jump into a higher tax bracket for that one year. Systematic withdrawals will allow you to spread the income and related income tax over a period of years. There is no penalty for early withdrawal on an inherited IRA.
The above advice is for general purposes only and is not intended as legal, accounting or tax advice. Specific situations may vary.
A joint service from The Sun and the Maryland Association of Certified Public Accountants can help you with your tax queries. Association members, all CPAs, will answer questions from readers until April 15. To ask a tax question, call Sundial, The Sun's telephone information service, at (410) 783-1800. Using a touch-tone phone, enter 6225 after you hear the greeting.