As I stated below, If your wife was was the sole benificuary of the *retirement account* (which is separate to the beneficiary of the estate) then the entire amount is taxable income to your wife and not her sister.
Any money that your wife gave to her sister is a gift to the sister and not income to the sister. Since the gift exceeds the $15,000 yearly limit then she need to file a 709 gift tax return (no tax will be due if her $11 million life time limit has not been exceeded). If the sister reimbursed for the tax paid then that is also a non-reportable gift to your wife.
**Disclaimer: This post is for discussion purposes only and is NOT tax advice. The author takes no responsibility for the accuracy of any information in this post.**
