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Retirement-plan distribution land mines
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What often happens when someone dies, leaving a sizable IRA for their children? Typically the account gets divided by the number of beneficiaries, and a broker cuts them a check. "The problem is, the minute money comes out of an inherited IRA, it is taxable. You cannot fix it, you cannot roll it over, you cannot use the 60-day ruling," says Slott.

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While nonspouse beneficiaries cannot roll over inherited IRA money under any circumstances, they can request a trustee-to-trustee transfer into their own account (unless the financial institution's custodial document doesn't allow them to do that -- a relatively rare occurrence). In order to stretch payments over the beneficiary's lifetime, the new account has to be set up properly, with the deceased IRA owner's name on the account, so that it says: Mary Jones IRA deceased, (date of death), FBO (for the benefit of) Ed Jones, beneficiary.

Also, when a beneficiary inherits these assets, he or she should immediately name a beneficiary for the account. While the required-minimum-distribution clock doesn't start all over again for the new beneficiary, it continues on the same schedule it was on for the original beneficiary.

After-tax money in an account
Some 401(k) plans allow participants to contribute after-tax money, and some employees elect to save this way. When leaving a company, should owners of after-tax retirement assets automatically roll the money into an IRA?

Not necessarily. If you need the money, you may not want to put it into an IRA. Once it's in there, monies become commingled and, besides having to track it on Form 8606 for the rest of your life, you have to take withdrawals on a pro-rata basis. That means you pay tax on the earnings portion of the IRA, and to do this you have to calculate the proportion of after-tax money to the total value of the IRA.

It can be an accounting nightmare.

There are a lot of other land mines in the retirement-plan landscape. These are just a few. When things get complicated, it may be tempting to throw your hands in the air and hire some help. But is the help any good? Knowing about some of these traps gives you an important edge in determining whether your adviser can help or hurt you. If your adviser's knee-jerk solution is to throw your retirement plan assets in a rollover without asking a few questions first, beware.

Some basic questions they should ask are:

Do you have company stock in the plan?

Do you have after-tax money in the plan?

Is your beneficiary form updated?

Does the current plan allow payouts over your beneficiary's life expectancy?
Were you born before 1936? In that case, you might be eligible for a special tax break when withdrawing plan assets.
In the event IRA money was inherited, was it subject to federal estate tax? In this case, the beneficiary would be eligible for a huge tax deduction.
In the event you inherited money that's in a retirement plan, was the original owner (now deceased) born before 1936? In this case, the beneficiary would be eligible for special tax breaks.

On his Web site, Slott maintains a database of advisers who have received training from him. That's no guarantee that they'll know everything, but if you hire someone who's aware of retirement-plan pitfalls, it decreases the odds of a botched up transfer of assets. If you like your own adviser, you may want to put him to the test to see if he passes muster before placing him (or her) in charge of your plans.

If you have a comment or suggestion about this column, write to Boomer Bucks.

Bankrate.com's corrections policy -- Posted: May 24, 2006
 
 
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