Disclaiming Inherited IRA

[Tbsfca]

I'm trying to help some family friends. They are two sisters who are beneficiaries (descendants, per stirpes) of an Inherited IRA.

They would like to disclaim this and have it go to their kids (they each have 3 kids, so it would go to them equally).

They turned in some paperwork within the nine-month window as their IRA Custodian had advised in order to be considered a "qualified disclaimer". However, now IRA Custodian is saying they needed something else. They are disputing this. However, if is it considered "non-qualified disclaimer", how is this treated?  Are they taxed on it if they have disclaimed it outside the nine-month window? This is not a sizable estate, so they don't get into estate tax limits and those issues.

As I understand/interpret it, they would not be taxed on this disclaimer, even if it is considered non-qualified. Again, as I understand 26 CFR Sec. 25.2518-1(b), what is passed to the children is considered a gift, and if the gift is over the $15k annual gift tax exemption, it would mean the sisters need to fill out a gift tax return, but as long as that fits within each of their lifetime estate/gift tax exemptions (which they assume it will), their children will not be taxed on receiving it; the children would only be taxed as they take distributions within the required 10 yr period after the age of majority.

Is that correct?

@Anonymous_ is this your understanding? 

[Tbsfca]

Just adding this, which I should have included above. The last sentence is the one I'm trying to interpret.

https://www.law.cornell.edu/cfr/text/26/25.2518-1 

"(b) Effect of a qualified disclaimer. If a person makes a qualified disclaimer as described in section 2518(b) and § 25.2518-2, for purposes of the Federal estate, gift, and generation-skipping transfer tax provisions, the disclaimed interest in property is treated as if it had never been transferred to the person making the qualified disclaimer. Instead, it is considered as passing directly from the transferor of the property to the person entitled to receive the property as a result of the disclaimer. Accordingly, a person making a qualified disclaimer is not treated as making a gift. Similarly, the value of a decedent's gross estate for purposes of the Federal estate tax does not include the value of property with respect to which the decedent, or the decedent's executor or administrator on behalf of the decedent, has made a qualified disclaimer. If the disclaimer is not a qualified disclaimer, for the purposes of the Federal estate, gift, and generation-skipping transfer tax provisions, the disclaimer is disregarded and the disclaimant is treated as having received the interest."

[Anonymous_]

The problem here is with the fact that this is a retirement account (specifically, an IRA) which you cannot really "gift" to another person.

As a result, the entire transfer would be (or should be) treated as a distribution and then a gift to the kids. Of course, that would leave the sisters stuck with liability for any income taxes due on the distribution. 

In short, if the interest actually "vests" in the sisters (as a result of having missed the 9-month deadline), then they cannot actually "gift" the IRA to the kids without tax liability.

As I indicated earlier (and in another thread, I believe), this would not be an issue if the property were something like a car, real estate, or stocks/bonds/mutual funds in a regular brokerage account. It is a problem because it is an IRA.

[Tbsfca]

Thanks, @Anonymous_ .

So even if the original IRA owner's grandkids are the next beneficiaries since the beneficiary designation was "to my descendants, per stirpes", it would not be considered a disclaimer passing to the next beneficiaries? And instead it would need to be 'accepted' by the sisters (and taxed at their ordinary income rates) before passing it to their kids?

If that's the case, it sounds like the dispute with the IRA Custodian who originally told them what they needed to provide - and is now saying otherwise - is worth pursuing to try to get this covered as a "qualified disclaimer".

Goodness. What a pain.

Thanks again for the quick reply.

[Opus 17]

@Tbsfca 

I don’t know the correct answer here, but I don’t believe that @Anonymous_  is correct. Disclaiming an IRA does not make it a gift. Disclaiming the inheritance nullifies the designation of the first person as a beneficiary.  If the beneficiary designation is nullified, the IRA should go to either to the estate or to the contingent beneficiaries.

Some other experts who might know more are @dmertz , @Hal_Al  or @macuser_22    

Disclaiming an inheritance has to be done correctly under both federal and state law. It may be that you met the federal requirements but not the state requirements. Depending on the dollar amount, it sounds like you need to hire an enrolled agent and have them work with the IRA custodian for you.

It may be helpful to remind you here that the rules for inheriting an IRA have changed. You can’t distribute an inherited IRA over your entire lifetime. All inherited IRAs (unless inherited by a spouse) must be distributed within 10 years.  You might be in a situation where the children have no other taxable income or are in the 12% tax bracket, while their parents might be in the 22% tax bracket, so disclaiming the IRA could result in some tax savings.  But there is no longer a “stretch” option. So you might also want to talk to a financial planner to see whether it is worth fighting over the disclaimer issue. It may be that you would be accomplishing less than you thought you would, so that it is not actually worth fighting for.

[Tbsfca]

Thank you, @Opus 17 . If the Inherited IRAs go to the contingent beneficiaries or estate, that would we welcomed as long as the sisters aren't taxed on the Inherited IRAs as a distribution or as ordinary income. Would they be?

The sisters originally wanted the IRAs to go to their Mom (surviving spouse, per the IRA Custodian agreement terms) because they believe this was their Father had really intended, but the beneficiary designation selected was "To my descendants who survive me, per stirpes." so the IRA Custodian said they need to honor that.

The sisters did contact their estate attorneys and tax professionals but even they don't have a lot of experience with disclaimers, let alone the scenario that might be considered a non-qualified disclaimer, so I'm trying to help the sisters do further research as we inch toward the end of the calendar year, where an RMD would be required if they don't transfer the Inherited IRAs out of their Father's name.

Thank you so much for calling in reinforcements for their points of view, too! I realize this isn't straightforward and appreciate all points of view.

[Anonymous_]

@Tbsfca 

As per usual, @Opus 17 has misread a post and injected himself into an area of tax law about which he knows next to nothing. This is not at all unusual. The individuals he has tagged actually know less than does he about Section 2518 (which Opus17 most likely did not know even existed prior to this, and perhaps an earlier post).

You already stated that you missed the Section 2518 deadline so there is no qualified disclaimer. Therefore, the inheritance can still be disclaimed, but not for tax purposes. The foregoing statement is simply not arguable, as I am sure you are aware,

Thus, the inheritance can be disclaimed but, again, the sisters cannot "gift" (or transfer) an IRA to a third party. They can, of course, take distributions and gift them to whomever they desire. 

To reiterate, I never stated that disclaiming an IRA somehow "makes it a gift". 

[Anonymous_]

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@Opus 17 wrote:

I don’t know the correct answer here.....

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Then why on earth are you posting here?

You have no specific knowledge, are neither a lawyer nor an accountant, nor do you have any formal education in this area (obviously). 

Further, you, as do several others, have a bad habit of not reading posts carefully and thoroughly, and, as a result, overlook details in posts (such as here, overlooking the fact that an individual missed the deadline for a qualified disclaimer).

[Opus 17]

"They turned in some paperwork within the nine-month window as their IRA Custodian had advised in order to be considered a "qualified disclaimer". However, now IRA Custodian is saying they needed something else. They are disputing this."

Just because the custodian claims they missed the deadline does not make it so.  The custodian may be correct, of course, but if the dollar amount is significant, it might be worth hiring an enrolled agent to double check.

"The problem here is with the fact that this is a retirement account (specifically, an IRA) which you cannot really "gift" to another person."

This is true if the disclaimer was not properly performed.  A retirement account can't be given to someone else.  It could be cashed out and the money given to someone else (with the owner-heir paying the tax) but the account can't be given away.  However, the inheritance can be disclaimed, and a disclaimed inheritance is not a gift.  

Then separately, you need to look at the tax consequences.  I agree that if the disclaimer was not done in a timely fashion, the daughters owe the income tax.  However, the taxpayer disputes that the disclaimer was untimely.  As I said, that may require an expert to look into.  

@Tbsfca 

1. I believe that a spouse can't legally pick IRA beneficiaries for more than 50% of the account, unless the other spouse signs a waiver. (The spouse can't be accidentally or deliberately disinherited without their agreement.)  Did the surviving spouse sign such a waiver?  Or are we just discussing the other 50% which was left to the two daughters?

2. If the goal of the daughters is to return the funds to their mother's spouse, why are they trying to disclaim the inheritance knowing the accounts will go to the grandchildren?

3. Assuming the disclaimer was untimely, then I suggest the daughters keep the inherited IRAs in their name and hold the money "in trust" informally for the other spouse.  There are several reasons why it may be advantageous for an elderly parent to not have too much ready funds.  If the daughters are trustworthy, they can keep the accounts, withdraw a little for their parent (or stepparent) as needed, and take out a little extra to cover their own tax burden.  And as @Anonymous_ points out, if the disclaimer was untimely, the daughters have tax consequences anyway, so they might as well keep the accounts in their own names.

The family may also want to discuss the other parent's financial situation with an attorney who specializes in estate planning.

4. If you believe the custodian is wrong and the disclaimer was timely, you will need to pay an expert to prove to the custodian.  I suggest an enrolled agent, which is an accountant specially trained and accepted to practice before the IRS.  

[Anonymous_]

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@Opus 17 wrote:

....I agree that if the disclaimer was not done in a timely fashion, the daughters owe the income tax.  However, the taxpayer disputes that the disclaimer was untimely.  As I said, that may require an expert to look into.  

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Yes, I absolutely concur, 100%, with the above quoted statements.

However, the presumption has to be (it is actually a fact) that the custodian is unwilling to yield in their position. As a result, the only recourse would be legal action (hardly worth it, in all probability).

You might want to read the other thread in which @Tbsfca initially posted several messages in order to get a better picture of the context for some of the responses here.

Solved: Re: Handling of Disclaimer of inherited Real prope... (intuit.com)

[ScruffyCurmudgeon]

@Opus 17 

@dmertz , @Hal_Al  @macuser_22    

Just agree - have to get some time to read the full string of posts.
Disregard

[Anonymous_]

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@ScruffyCurmudgeon wrote:

A properly executed Disclaimer by that Beneficiary acts as if the Beneficiary were non-existent for the purposes of the inheritance of bequest and therefore causes through Action of Law to pass the right of Inheritance to the named successor(s).

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@ScruffyCurmudgeon 

The above quoted statement in your response is not in dispute here.

We are all in agreement on that point and I am not sure why that point needs to be rehashed ad infinitum.

[Hal_Al]

Most of this post involves legal questions, not tax questions.

However,  poster does ask:

Q.   If the Inherited IRAs go to the contingent beneficiaries or estate, that would we welcomed as long as the sisters aren't taxed on the Inherited IRAs as a distribution or as ordinary income. Would they be?

A.  Yes, either the estate will pay the income  tax on ordinary income or the heirs that receive the distribution will pay the income tax.  If somehow, the sisters are able to actually inherit the IRA, as a legal beneficiary (as opposed to taking a distribution from it thru the estate), then they will have 10 years to take distributions. So they could either spread the tax over 10 years or postpone taxation for up to 10 years.

[Anonymous_]

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@Hal_Al wrote:

Most of this post involves legal questions, not tax questions.

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Exactly; legal questions with respect to disclaimers under state law as well as disclaimers for the purposes of complying with Section 2518 of the Code.

It should be noted that, in this instance, two disclaimers may be necessary. One disclaimer submitted to the IRA custodian and a second disclaimer to the executor of the estate if the IRA passes to the estate as a result of the disclaimed interest in the IRA.

[Tbsfca]

Thank you, @Opus 17 . Below are responses.

1. I believe that a spouse can't legally pick IRA beneficiaries for more than 50% of the account, unless the other spouse signs a waiver. (The spouse can't be accidentally or deliberately disinherited without their agreement.)  Did the surviving spouse sign such a waiver?  Or are we just discussing the other 50% which was left to the two daughters?

I don't think all states require a spousal notarized waiver. The exact language of the designated beneficiary was "To my descendants who survive me, per stirpes." which was one of the pre-written in options from the IRA Custodian. So it goes to the sisters, not the mom. The sisters' parents should have gotten more clarification on what this beneficiary designation meant. 

2. If the goal of the daughters is to return the funds to their mother's spouse, why are they trying to disclaim the inheritance knowing the accounts will go to the grandchildren?

The Custodian IRA agreement said it would go to the surviving spouse. They disclaimed their interest, knowing it would either go to their mom or children. But you're right, with the "per stirpes", it goes to the grandchildren. 

3. Assuming the disclaimer was untimely, then I suggest the daughters keep the inherited IRAs in their name and hold the money "in trust" informally for the other spouse.  There are several reasons why it may be advantageous for an elderly parent to not have too much ready funds.  If the daughters are trustworthy, they can keep the accounts, withdraw a little for their parent (or stepparent) as needed, and take out a little extra to cover their own tax burden.  And as @tagteam points out, if the disclaimer was untimely, the daughters have tax consequences anyway, so they might as well keep the accounts in their own names.

The family may also want to discuss the other parent's financial situation with an attorney who specializes in estate planning.

Thanks for this suggestion. 

So if the disclaimer is non-qualified and the Inherited IRAs go to the next beneficiaries (their children) due to the "per stirpes" designation, is it still a taxable event to the sisters?

4. If you believe the custodian is wrong and the disclaimer was timely, you will need to pay an expert to prove to the custodian.  I suggest an enrolled agent, which is an accountant specially trained and accepted to practice before the IRS.  

Thanks for this. Yes, if a non-qualified disclaimer is a taxable event to the sisters, this is probably a path they will pursue as forms / statement of disclaimer were turned in within the nine-month window. They have emails. Sisters asked in writing if further documentation was needed in order to process. It wasn't processed, even though IRA Custodian acknowledges it was received.

Obviously with the pandemic and sadly, so many more deaths than usual, I'm sure IRA Custodians are stretched, but from what I can tell, this just seemed sloppy for them not to process or respond.