What Is Income in Respect of a Decedent?
Income in respect of a decedent (IRD) refers to untaxed income that a decedent had earned or had a right to receive during their lifetime. IRD is taxed to the individual beneficiary or entity that inherits this income.
However, IRD also counts toward the decedent’s estate for federal estate tax purposes, potentially drawing a double tax hit. Fortunately, the beneficiary may be able to take a tax deduction from the estate tax paid on IRD. The beneficiary must declare IRD as income for the year in which they received it.
- Income in respect of a decedent (IRD) refers to untaxed income that a decedent had earned or had a right to receive during their lifetime.
- IRD is taxed as if the decedent is still living.
- Beneficiaries are responsible for paying taxes on IRD income under most circumstances.
IRD is defined in Internal Revenue Code, section 691. Sources of income include the following:
- Uncollected salaries
- Vacation pay
- Sick pay
- Uncollected rent
- Retirement income
Other sources are:
- Payments for crops
- Interest and dividends accrued
- Distributions from certain deferred compensation and stock option plans
- Accounts receivable of a sole proprietor
- Gains from the sale of property (if the sale is deemed to occur before death, but proceeds are not collected until after death)
IRD is also any income from sales commissions and IRA distributions owed to the decedent at the time of their death.
How IRD Is Taxed
IRD is taxed in the same way it would have been taxed upon the decedent if they were still alive. For example, capital gains are taxed as capital gains, and uncollected compensation is taxed as ordinary income on the beneficiary’s tax return for the year they received it. There is no step-up in basis for IRDs.
How IRD Works for IRAs and 401(k)s
Other common examples of IRD are distributions from tax-deferred qualified retirement plans such as 401(k)s and traditional individual retirement accounts (IRAs) that are passed on to the account holder’s beneficiary. If an individual dies leaving behind a $1 million IRA to his beneficiary, the beneficiary will be responsible for paying taxes on any distributions made from the account.
The beneficiary may have to start taking required minimum distributions (RMD)s at a certain point. A living spouse who is the sole beneficiary has certain rights not granted to another type of beneficiary. For example, a spouse can rollover the decedent’s IRA assets into their own IRA and postpone RMDs until age 73. Either way, each beneficiary has specific RMD rules to follow and is liable for applicable taxes.
The age for RMDs used to be 70½, but as a result of the passage of the Setting Every Community Up For Retirement Enhancement (SECURE) Act in December 2019, it was raised to 72. Then, in December 2022, the passage of the SECURE 2.0 Act raised the age to 73.
If the decedent died on or after reaching the age of RMDs, their RMD for the year of death will factor into their estate. If this were to push the decedent’s estate beyond the federal exclusion ($12.06 million in 2022 and $12.92 million in 2023), an estate tax will kick in.
To try to minimize this impact, individuals and married couples devise estate-planning strategies that involve transferring assets to trusts. One option is a credit shelter trust, which postpones estate taxes until the death of the surviving spouse.
How Do I Report IRD?
If you as beneficiary received such income, you'll report it on your personal income tax return for the year that you received it.
What's the Difference Between Inheritance and IRD?
Inheritance is property bequeathed to you by a decedent. Income in respect of a decedent, or IRD, is income that was owed to the decedent but wasn't received by them due to their death. Instead, that income may go to the beneficiary. For example, a required minimum distribution from an IRA (that you are to inherit) that was to be made to the decedent the year the decedent passed away will go to you. While you don't normally owe taxes on inheritance, you will owe taxes on IRD that you receive.
How Is a Beneficiary Taxed on IRD That's a Required Minimum Distribution?
Just as the decedent would have been. For example, an RMD from a traditional IRA would have been reported by the decedent as regular income and taxed as such. The beneficiary will report the RMD in the same way and will owe tax that corresponds to their income tax bracket.
The Bottom Line
IRD is income that is owed to an individual who dies before receiving it. If a beneficiary receives this money, they will owe taxes on it.
If the IRD generates a tax liability for the decedent's estate, a beneficiary may be able to claim a deduction for estate taxes connected to the IRD amount.