Distributions from Roth IRAs are not required to begin at any particular time, and there are no limitations on death benefits. Distributions from a traditional IRA, in contrast, must begin by April 1 following the year in which the owner reaches age 70 1/2 or (if later) retires and must generally be made in ways that will exhaust the account during the lifetimes or over life expectancies of the owner and his or her spouse. In other words, while congressional policy is that traditional IRAs be for retirement savings only, Congress acquiesces in the use of Roth IRAs for accumulating wealth to be transmitted at death.
Roth and traditional IRAs are subject to the same rules for distributions after the owner’s death. If the beneficiary is not the surviving spouse, distributions must either be completed by the end of the fifth calendar year following the year of the owner’s death or consist of a series of payments beginning before the end of the calendar year following the year of death and continuing not longer than the beneficiary’s life expectancy. If the beneficiary is a surviving spouse, distributions may be delayed until the spouse reaches age 70 1/2 or retires, or the spouse may elect to treat the IRA as his or her own.
A “qualified distribution” from a Roth IRA is excluded from gross income. To be qualified, a distribution must satisfy both of the following requirements:
- It must not occur before the fifth taxable year following the year for which a Roth IRA contribution was first made by the taxpayer or the taxpayer’s spouse.
- It must be made after the account owner reaches age 59 1/2 or becomes disabled, be made to the owner’s beneficiary or estate after the owner’s death, or be a “qualified special purpose distribution.”
Qualified special purpose distributions are distributions, up to a $10,000 lifetime maximum, that are “used” by the distributee within 120 days to pay “qualified acquisition costs” for property to serve as the “principal residence” of a “first-time homebuyer,” who must be the IRA owner, his or her spouse, or a child, grandchild, or more remote ancestor of the owner or spouse. Qualified acquisition costs are costs of acquiring, constructing, or reconstructing a residence, including “reasonable settlement, financing, or other closing costs.” A first-time homebuyer is a person who has not had a “present ownership interest in a principal residence” during the two years preceding the acquisition of the residence financed with the distribution. A distribution can qualify only to the extent of $10,000, less all prior qualified first-time homebuyer distributions received by the recipient.
A nonqualified distribution is excluded from gross income only to the extent of the excess of the taxpayer’s contributions to Roth IRAs, less all prior distributions, qualified and unqualified. A distribution of an excess contribution is not qualified and is therefore included in gross income to the extent of the income of the account required to be included in the distribution. An amount included in gross income on a nonqualified distribution may be subject to an additional 10 percent penalty tax under Internal Revenue Code Section 72(t) (e.g., if made to the owner before age 59 1/2 ). Very generally, the effect of these rules is that investment returns of a Roth IRA are tax-free to the distributee if received in a qualified distribution but are otherwise taxed.
The basis of property other than money received in a distribution from a Roth IRA is the property’s fair market value, whether or not the distribution is qualified. An owner’s lifetime gift of a Roth IRA to another person is treated as a distribution in full to the owner and a gift of an account or annuity that is not an IRA.
Please contact one of our Roth IRA Experts at 800-472-0646 for more information.