Washington Estate Planning

Can You Roll Over an Inherited 401(k) Plan?

It used to be that, if you inherited a 401(k) plan from your spouse, you were in a much better position than non-spouses who inherited 401(k)’s. Spouses Spouses are allowed to roll over inherited 401(k) funds directly into their own, existing IRA. This is a huge benefit, because this rollover is tax-free, and the inherited funds can grow and compound until they’re needed during retirement. Non-Spouses: The Old Rules Until 2007, the rules for non-spouses were not nearly so generous. For most 401(k) plans, a non-spouse beneficiary had to withdraw all the funds from the account within 5 years, paying taxes on the money taken out. So, on top of a possibly sizeable tax bill, the beneficiary lost the potential for tax-deferred growth of the inherited money. Non-Spouses: The New Rules Since 2007, though, non-spouses have been allowed to roll over inherited 401(k) plans – with certain restrictions:

• The 401(k) money has to be rolled over into a newly established, “inherited” IRA. Transferring the money into an existing IRA will trigger a tax bill.
• The money has to be transferred directly by the plan administrator from the 401(k) to the inherited IRA. If the check is sent to the beneficiary, then directly deposited into the IRA, the rollover is no good, and taxes are due.

Required Minimum Distributions As a non-spouse beneficiary, you’ll be required to take Required Minimum Distributions from your inherited IRA each year. The amount of each distribution depends on your life expectancy, as well as the account balance. The good news is that, if you only withdraw the minimum, then the IRA investments still get to grow and compound throughout your lifetime.

Retirement Planning Glossary: 401(k) Plans

401(k) Plan: A 401(k) plan is a tax-deferred retirement account offered by your employer. Tax-deferred means that the money you contribute to the account is tax deductible in the year it goes into the account, so it is not taxed until you withdraw it from the account (generally, after you reach age 59 ½). In order for you to participate in a 401(k) plan, your employer has to offer such a plan, and you have to meet the eligibility requirements, which are determined by your employer. Roth 401 (k): Like a traditional 401(k), a Roth 401(k) is a type of retirement plan offered by your employer. With a Roth 401(k), however, your contributions are not tax deductible. Instead, you contribute to the account with after-tax dollars and, when you retire, your withdrawals, including the interest earned on your contributions, are made tax-free. Employer Matching Program: Some employers contribute an additional amount to their employees’ 401(k) accounts, contingent on the employee’s participation in the plan. For example, an employer might match 50% of an employee’s contribution, up to 5% of the employee’s income. This means that for each dollar that the employee contributes to his or her retirement account, the employer contributes 50 cents to the account. Once the employee has contributed 5% of his or her income, the employer’s matching contributions cease for that year.