My dad died recently, and we (his four children) found that other than his house, essentially all his money is in stocks in an IRA (perhaps not the best choice for an 85-year-old with dementia, but there’s no changing it now). I’m trying to figure out how best to handle the IRA inheritance (about $100K for each child) from a financial aid and tax perspective. Our financial situation isn’t great; we still have significant credit card debt that we accumulated in the aftermath of the recession. We have been paying it off steadily, but it may be as much as two more years before it is gone. Our cars are 13 and 14 years old. We need a new roof. Our mortgage is paid off, but we do have a modest home equity loan which is being repaid. Other factors: my husband is self-employed and has health issues that may at some point interrupt his ability to work, and thus his income, which is nearly twice mine. Our children go to a private school (please don’t comment on this decision; it was the best choice for them, even if it leaves us paupers in our old age ) and although we get generous financial aid, there is still a bill every month. They are juniors in high school, so the initial FAFSA with have nothing to do with the inheritance.
I wonder how to minimize the impact of this inheritance on financial aid and taxes, while maximizing its impact on our current needs. I thought at first that we would be able to pay off our credit card debt, buy two cars and a roof, and maybe even take a vacation on Dad’s dime. Now I have learned that because the money is in an IRA, any distribution we take will add to our income (putting us into the 28% tax bracket if we take it all) and be taxed accordingly. I will be required to take a minimum distribution (about $4K, I think), but that alone would have little effect on anything (although, for FA purposes, it seems we are right at the dividing line where every increase in income makes a big difference in our EFC). I know some of you are experts on this kind of thing or have been through it yourselves. What do you think? Should we just take the minimum required distribution and struggle along? Should we take out just enough to pay off the credit card debt? Should we take it all, pay the debt, buy the cars, and bite the bullet on taxes for the one year, hoping we can explain the situation (for this or the previous scenario) to the financial aid office of whatever college(s) the kids are in (for this will only affect the FAFSA for their 2nd or 3rd year of college, not the first)? We also can take into account that the sale of Dad’s house may give each child an additional $40-50K, but this will undoubtedly take more time.
I apologize for my long-windedness and appreciate your opinions.
I’m not sure why you think that, it’s what I would expect. My mom if cognitively strong, and she has virtually all her money in an IRA.
To the best of your ability, pretend that this money does not exist. For purposes of FAFSA and even CSS for most schools, it doesn’t. And if you are as stretched as you claim, it may be the only retirement savings you have for quite a while, or ever. Don’t spend it now, and don’t take the tax hit of withdrawing it all at once.
You’ll know next year whether you’ll get financial aid. I haven’t looked up your post history, but you’ve got over 1000 posts, so you probably have looked into whether your kids are likely to get merit scholarships or aid. If they get financial aid, I doubt the aid office would “understand” that you had to spend the inheritance on bills. They would more likely think that a family with a 6 digit inheritance would need less aid than a family that didn’t have that. Maybe they will get enough merit aid that the price of college isn’t any more than what you are paying for private school.
Wait for this. After all, what was your plan if your Dad had lived another year? You had no guarantee that he wouldn’t outlive his money, or that you would inherit anything at all. You’ve scraped by so far, hold on for another year.
Can’t include the smiley face in that quote. There is nothing to smile about if you impoverish yourself and leave it to your kids to support you in your old age. The best gift you can give them is to take care of your own needs so they can live their lives. The way to start is to keep your hands off the IRA except for the RMDs.
The OP may have been exaggerating in order to be humorous, but I’ve seen that sentiment expressed so many times here. The parent thinks that they are doing the right thing by their child and being really selfless, but in reality, it’s just burdening them (and/or society) down the line. An expensive education is a nice luxury, but it’s not usually a necessity that would justify the parent raiding their retirement fund.
We have an inherited IRA. My understanding, from our accountant, is that there will be a penalty if we dissolve before the beneficiary is 59. That is in addition to taxes. This is for a non Roth IRA.
Please don’t take my word for this. Check with your own accountant.
Adding: the inherited IRA had to be changed from stocks to cash before division among heirs. Again, just going on advice of accountants and attorney.
This OP,can also divert any spending on private schooling for HS to college costs.
I agree. Take the RMD and view it as an annual bonus. Use it to pay bills when you get it. Or if your bills all get paid…use it for a treat.
We also inherited an IRA but not quite as large as yours. We take the RMD every year at the beginning of December. We say that grandma buys our Christmas presents…and she has done so since 2003. I will add, we,get each of our kids something special they want each year.
We view it as “found money” and don’t include it in our annual,budgets at all. Oh…and we inherited this,when first kdddo was a college freshman.
I’m still thinking about this. I guess if the interest I was paying on debt was significantly greater than penalties and taxes, I would dissolve to pay debt.
But really, I always go over this sort of thing with an expert. Sometimes I don’t agree but I get the advice.
Consider posting on bogleheads.org. They are very nice folks there with a variety of expertise, including some who are CPAs, tax attorneys and more. It really sounds like you and your family could benefit from some sound financial advice to pay off debt and save for retirement.
There is one big variable in this equation: how much financial aid you will be getting if you don’t liquidate the IRA. I see three main options:
Liquidate all now and pay for the cars/roof etc. Good if you will be paying super high debt to pay for those items. The debt would have to be worse that the FA you’d be getting to make this a good option.
Take the RMD for a few years to max FA and liquidate the IRA when it won’t hurt FA (Jan 1 of the youngest child’s sophomore year), assuming you spend anything you liquidate before you file for FA the next year. Allows you to max on FA (at the cost of any debt for the few years). This option, however, does not allow you to max on the tax savings from the IRA. But if you need the money, it’s an option.
Take the RMD for the rest of your life. That will maximize the FA and tax advantage of the IRA.
The options are not mutually exclusive. For example, you can do option 2 but not liquidate the whole amount and then save some for the rest of your life.
This all comes down to how much debt you will incur and at what rate for cars/roof against how much extra money you’d get in FA/tax savings.
@MomofJandL , I think stocks (being traded with no one in the family overseeing) were not the best choice. The IRA itself wasn’t the issue. The smiley face was to indicate a joke; I really didn’t want my question to get sidelined by comments on our choices regarding our children’s education. I did not mention that we do have a retirement fund; it’s not nearly enough, but it’s something. Thank you all for the comments and good advice! It is very helpful to see how something like this looks from the outside. I guess the prudent thing to do is let the IRA sit except for the RMD. @alh, the interest is quite a bit less than penalties and taxes would be; that was a helpful way to look at it. I agree that expert advice might be in order, but as we don’t have an expert in our corner, it was very helpful to bounce the problem off some impartial random adults.
Wow, more posts while I was writing! Thank you all again. Our plan before Dad died was to continue paying off credit card debt and hope the cars held out that long, then take advantage of low interest rate loans for new cars. I guess we should just stick to that plan.
How much financial aid would your kids have received if your inheritance is not included? The things you listed are unfortunate, but having large debts or needing a roof doesn’t get you financial aid. It’s more based on income and assets, and if your income in 2016 has returned to the pre-down turn amount, the inheritance may not matter. It will also depend on whether your kids are looking at meets needs schools or FAFSA only schools, the total cost, low income (Pell grants, etc). If your kids go to a public college and each have an EFC of $10k based just on your income, it may not matter one bit if you take the required withdrawal of $4k, which might change their EFC to $10.5k each; they’d still not get a Pell grant and would probably get the same need based aid from the school, which might be $0 or might be $full tuition.
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No way to tell without knowing what the FAFSA would have been and how much you are going to withdraw
OP- You are smart to be asking the questions. You do not need to make a decision about the IRA right now- the brokerage firm where the IRA is invested will know (I seem to recall that you have nine months from date of death to retitle but I’m too tired to look it up right now, and you should have the brokerage firm confirm the dates anyway.) You will need them to help you retitle the accounts accurately regardless-- I know many people mess up the titling when transferring and there are no do-overs with the inherited IRA. You do not need to sell the stocks in the IRA to transfer btw… just divide the holdings by 25% for the four heirs, and there will be a modest sale of fractional shares which will go back into your new IRA in the form of cash… for your first distribution. The brokerage firm will help with all of this. And if the broker you talk to isn’t helpful or isn’t patient enough to explain everything, call the manager of the office and ask for someone who is experienced with inherited IRA’s- not everyone is, some know squat about estate issues.
How old are you?
re: the sale of the house- try to think about that as the infusion of cash you will need to pay off your credit cards and the home equity loan.
Liquidating the IRA may seem tempting but i agree with the poster above that this is an incredible gift- a tax deferred lump of assets which will help you and your husband during YOUR retirement, with a modest infusion of income every year (the RMD) until you retire. You’ve had some tough years financially- this is a lifeline to jumpstart your retirement planning, not a cash cushion to take a vacation and fix the roof.
If it were me… I’d encourage the kids to run the NPC’s on a wide range of schools, look at anything in commuting distance, merit opportunities, etc. What’s changed is the loss of your dad (my condolences…) and potentially, a way out of debt once his house is sold and the assets are distributed. The IRA is not that relevant IMHO- a modest increase in your income due to the RMD isn’t going to have a huge impact on your financial aid situation, and your kids still need to be savvy about their choices based on your limitations regardless.
Will you be able to look for higher paying work once the kids are out of the house??? More flexibility for business travel or longer hours?
@blossom, I’ve seen some of your previous posts and was hoping you might chime in, thank you! I have read about the need for careful retitling, so will make sure of that. I am 56 and in a second career that is by nature relatively low-paying but which should allow me to continue to work well into old age if need be. I have run NPCs, and we seem likely to get enough financial aid to survive without the children taking on massive debt (that is, if they get into schools that meet need, which they do have a good shot at). We are frugal; we can pay our bills and are doing well with the debt. The problem is the big expenses (the old cars that may soon die, the old house that needs maintenance), and yes, I did think at first that we would get an infusion of cash to take care of those things and put us on a more stable footing. But I guess we will muddle on as we have been and be grateful to Dad for the extra retirement money. The RMD will at least help us pay off the credit card debt sooner, and then perhaps, as you said, the house sale will get us some of the rest. Again, I appreciate everyone’s input.
The money from the sale of the home will not be income assuming the estate sells the house and then just cuts you a check. If the money is in your account when your complete the FAFSA or CSS, it may be considered an asset, so just make sure it isn’t in the account when you file. That’s the money you should use for the car and roof.
Actually the car, roof, repaying the CCards, and repaying HELOC. I’d pay off the CCards 1st from your portion of house proceeds. That tends to have highest interest rates.
Just a point - there is no penalty for taking withdrawals (even the full amount ) from an INHERITED IRA before the beneficiary is 59. You just have to pay tax on it (and it is included in income for FA purposes). But no early withdrawal penalty.
You do have to take a minimum distribution each year. Penalty for failing to do so is large (50% of what you failed to take, I believe).
I looked up emails from my accountant. He told me there is a 10 percent penalty, in addition to taxes for dissolving an inherited non Roth IRA before age 59 1/2. I dissolved a couple of small inherited ROTH IRAs without penalty, if I recall correctly.
^ It’s hard to really know what your accountant was talking about being that we can’t see the email. Intuitively, doesn’t it seem wrong that you take an RMD from an inherited IRA every year (even before 59 1/2) and can’t take out more than that without penalty?
The difference seemed to be Roth vs traditional. I hope my accounting firm is correct. The firm includes tax attorneys, who are sometimes consulted on my tax prep. It’s always possible they are just wrong, or that I phrased the question in such a way they didn’t really understand. My taxes get complicated.
) and although we get generous financial aid, there is still a bill every month. They are juniors in high school, so the initial FAFSA with have nothing to do with the inheritance.