Decedent (IRD) Deduction

What Is a Decedent (IRD) Deduction?

Decedent (IRD) deduction is short for Income in Respect of a Decedent tax deduction. It is based on the income from any earnings, dividends, sales commissions, bonuses, or distributions from an individual retirement account (IRA) owed to individuals at the time of their death. Non-qualified annuities—annuities outside of an IRA—in some situations may also be subject to IRD.

Under certain circumstances, beneficiaries of an estate can reduce their tax burden by taking a decedent (IRD) deduction.

Understanding Decedent (IRD) Deductions

In general, ordinary income tax must be paid on income before beneficiaries can receive their inheritance. However, a beneficiary can get the so-called decedent (IRD) deduction on these inherited assets by showing the estate of the deceased already paid federal estate taxes on the specific inherited accounts or items. This rule exists to avoid double taxation.

The decedent (IRD) deduction only affects federal taxes, not state taxes. Also, deduction claims only apply in the same year in which individuals actually received the income. Moreover, qualifying for the tax break requires paid estate taxes for the specific inherited items.

Decedent (IRD) deductions are somewhat rare, even among those who receive assets from an estate. Some beneficiaries are not even aware of such a deduction, so they might not take it.

How to Calculate a Decedent (IRD) Deduction

It can be tricky to calculate how much of the estate tax applies to a particular inheritance. For this reason, many beneficiaries choose to hire a tax advisor or buy software for guidance, rather than trying to itemize deductions on their own.

In general, a fair bit of numbers-crunching and the tax returns of the deceased are required to determine beneficiary eligibility. To do the calculation, tax advisors first take the total value of the estate, minus any tax deductions, to get a number called the adjusted taxable estate. Next, they take this number times the current tax rate and subtract any unified tax credits. This yields the federal estate tax.

Then, they take the adjusted taxable estate noted above and subtract any IRD costs. This yields a new adjustable taxable estate figure. Again, they take this number times the current tax rate, minus any unified tax credits, to get a federal estate excluding the IRD costs.

Finally, they take the original federal estate tax minus the tax excluding IRD costs to get the decedent (IRD) deduction. Multiple beneficiaries from a single estate are required to split the total amount of the decedent (IRD) deduction proportionally among the beneficiaries. For instance, if a beneficiary received $3 million from a $10 million estate, this beneficiary could only claim 30% of the entire decedent deduction.