It sounds fancy and fun, but the "Stretch" IRA is a fairly simple strategy (not an actual account type). It is a way to defer paying taxes on an inherited IRA by taking distributions over the non-spouse beneficiary’s lifetime. The Investopedia article does a great job of explaining this.
Here is a Sona Financial 90 sec video to help explain it:
It is NOT yet passed, but a bill introduced would do away with the Stretch IRA and require that you take it within 5 years. It is called the Retirement Enhancement & Savings Act Of 2016.
Why Change The Rules?
- Help Fill Government Coffers
- Much like the government doing away with File & Suspend for Social Security
- The overhaul to the government's retirement income program last time was tacked onto the budget bill
- Last Minute!
- Little Debate!
- Will have to liquidate within 5 years
- Exclude $450,000 From the 5-Year Rule
Mark Struthers CFA, CFP®
The "stretch IRA" is not a new IRA account on the market, or even a new investment concept, it is simply a wealth transfer method that allows you the potential to "stretch" your IRA over several future generations. As an IRA owner, you are typically required to take minimum distributions from your IRA at age 70.5 based on an IRS life expectancy table. If you are fortunate enough to inherit someone else's IRA, you will be required to take minimum distributions each year from the IRA account based on your life expectancy figure - regardless of your age.
IRA accounts at death of the owner pass by contract or beneficiary designation. It is typical practice for most IRA owners to name their spouse as the primary IRA beneficiary and their children as the contingent beneficiaries. While there is nothing wrong with this strategy, it might require the spouse to take more taxable income from the IRA than what he/she really needs when he/she inherits the IRA. If income needs are not an issue for the spouse and children-, then naming younger beneficiaries (such as grandchildren or great-grandchildren) allows you to stretch the value of the IRA out over generations. This is possible because grandchildren are younger and their required minimum distribution (RMD) figure will be much less at a younger age (see example below).
Traditional IRA worth $500,000 on 12/31/2009
Owner: Dave (deceased 12/1/2009); *IRA Inherited by:
a) Spouse: Mary (Age 73 in 2010)- Mary will have to take an RMD of $20,234 in year 2010
b) Son: Mike (Age 55 in 2010)- Mike will have to take an RMD of $16,892 in year 2010
c) Granddaughter: Julia (Age 28 in 2010)- Julia will have to take an RMD of $9,042 in year 2010
d) Great Grandson: Dallas (Age 6 in 2010)- Dallas will have to take an RMD of $6,519 in year 2010
*Each beneficiary will have to continue to take the RMD each year thereafter based on the new life expectancy figure which must be computed each year from the IRS Publication 590 (IRA's) from the Appendix C- Life Expectancy Tables section.
If Dave is careful in beneficiary selection, the younger the beneficiary the less the RMD payment. This allows the IRA value to continue to grow tax-deferred, thus allowing it to stretch to several generations.
Find out how your beneficiaries can enjoy tax-deferred growth for as long as possible by referring to Want To Leave Money To Your Family? Stretch Your IRA.
This question was answered by Steven Merkel.
The "stretch IRA" refers to taking advantage of the beneficiary IRA option which can be extremely powerful if used correctly. The "stretch" or "beneficiary" IRA provides an opportunity for a non-spouse IRA beneficiary to take withdrawals based on the beneficiary's age rather than the age of the donor. If the beneficiary is much younger than the the donor (which is usually the case), the RMD (required minimum withdrawal) is a much lower amount. This allows the IRA to continue to grow for much longer and, therefore, continue to grow tax deferred and accumulate more money for the beneficiary.