Inherited IRA

[2020irabs]

Hello

I inherited funds from an IRA.  100% of the funds were immediately deposited into an inherited 60 month IRA CD.   I did this because the Credit Union told me this would prevent me from having to take yearly contributions since I am 54.  The 1099R form has the entire distribution as taxable yet it also has both boxes for 2b checked.  This money should not be considered income since I rolled it over.  I cannot figure out how to remove this from my taxable income.

Thanks

KC

[macuser_22]

Was it inherited from a spouse?  What code is in box 7?  Is the IRA/SEP/SIMPLE box checked?

If a non-spouse then the it can only be moved to another account as follows (and a Trustee-to-trustee transfer does not generate a 1099-R.)      It is not clear just what the credit union did.

IRS Pub 590-B https://www.irs.gov/publications/p590b#en_US_2020_publink1000230538

Inherited from someone other than spouse.

If you inherit a traditional IRA from anyone other than your deceased spouse, you can't treat the inherited IRA as your own. This means that you can't make any contributions to the IRA. It also means you can't roll over any amounts into or out of the inherited IRA. However, you can make a trustee-to-trustee transfer as long as the IRA into which amounts are being moved is set up and maintained in the name of the deceased IRA owner for the benefit of you as beneficiary.

Like the original owner, you generally won't owe tax on the assets in the IRA until you receive distributions from it. You must begin receiving distributions from the IRA under the rules for distributions that apply to beneficiaries.

[2020irabs]

Thank you.  Based on what I read in the IRS publication the funds were handled correctly.  

[dmertz]

Are you the surviving spouse of the decedent?

One is not permitted to take a distribution from an inherited IRA and roll it over to another inherited IRA.  Only a spouse beneficiary is permitted to roll over a distribution from an inherited IRA and the rollover can only be to their own IRA, not to an inherited IRA, claiming the IRA as their own.

The only way that one is permitted to move an inherited IRA to another inherited IRA is by nonreportable trustee-to-trustee transfer.  With a trustee-to-trustee transfer, there is neither a distribution nor a rollover.  So unless the transaction was actually a trustee-to-trustee transfer and the custodian of the original IRA issued the Form 1099-R by mistake, the movement of the funds was not handled correctly.  If the custodian of the original inherited IRA mistakenly issued  the Form 1099-R, you need to obtain a corrected Form 1099-R indicating that $0 was distributed.

Also, the information that you got with regard to RMDs appears to be incorrect unless you are a spouse beneficiary and you actually rolled the money over to your own IRA, not to an inherited IRA.

Bank and credit union front-office personnel are often inadequately trained with regard to properly handling this sort of transaction.  Were the original custodian and the new custodian both the same credit union?

[2020irabs]

The previous reply included a link to an IRS publication. Based on what I read the funds were handled correctly so as to not be taxable income.

thanks

KC

[dmertz]

You are misinterpreting the IRS Publication.

[2020irabs]

The funds are in an Inherited IRA so I am pretty sure we are OK.   But thanks 

[SusanY1]

There should be no 1099-R for a trustee-to-trustee transfer, which is the only type of tax-free transfer allowed for a non-spouse beneficiary.  A 1099-R is issued when there is an indirect rollover, which is not allowed for an Inherited IRA. 

That is what the concern is expressed above - that the transfer may have been handled improperly, thereby making the transaction taxable.

The fact that you have a 1099-R at all indicates that something was not handled properly.   

Either the 1099-R was issued in error, or the transfer was not handled properly.  One of these must be the case, as the presence of a 1099-R indicates this has to be true.  

You cannot receive the funds and then deposit them into an Inherited IRA.  They must be transferred directly from the Decedent's IRA to the Inherited IRA in order to qualify as a tax-free transfer.  If at any time the funds were in your possession, you have a distribution that was 100% taxable.  Trustee-to-trustee transfers do not generate a 1099-R..

A proper non-taxable transfer for a non-spouse beneficiary

1. Must have been handled in such a manner that the funds were paid by the original financial institution directly to the bank that holds the CD.
2. Must have been paid payable to the bank as trustee for the Inherited IRA titled as such.  For example they check or wire would have been payable to "Bank X, FBO of Jane Do, Beneficiary Inherited IRA of John Doe, Deceased" (or similar).
3. No 1099-R is issued.

In any other type of IRA transaction, a 1099-R can be generated and the taxpayer can deposit it within 60 days and indicate that it was rolled over.  This is an indirect rollover.   This is expressly prohibited for Inherited IRAs.  While rollovers and transfers seem and sound similar, they are quite different.  Rollovers are not permitted for Inherited IRAs.  Only transfers are allowed.  

In your case, you must work to determine which thing is incorrect - the issuance of the 1099-R or the way that the funds were handled.  If the were rolled over and not transferred you cannot treat this as a tax-free transaction, and you have a prohibited transaction (even though the funds may be in an Inherited IRA now) and a taxable distribution.  

[dmertz]

The fact that the IRA custodian inappropriately accepted a rollover to an inherited IRA does not make it a legal rollover, so you run the risk of the IRS discovering the transgression and retroactively assessing an excess-contribution penalty for each year the excess contribution remains.  There is generally no statute of limitations on assessing this penalty.

Here is a PLR indicating that such a failed rollover is considered to be an excess contribution subject to penalty:  https://www.irs.gov/pub/irs-wd/0228023.pdf