The Individual Retirement Account (IRA) is a retirement plan account available for the retirement savings of an individual. The IRA provides some advantages relating to taxation of income. There are tax deductible and non deductible IRAs. IRA distributions are made to the beneficiaries named by the decedent. Beneficiaries may be designated in the will of a decedent.
Generally, income from IRA is not taxable[i]. However, the amount inherited by the beneficiary from the income with respect to a decedent (IRD) is taxable. The amount in the IRA at the time of the IRA holder’s death after deducting non-deductible contributions is treated as IRD. It is includible in the gross income of a beneficiary. Thus, when a beneficiary inherits amounts from an IRA, they are taxable by including the amount in the gross income of the beneficiary. These rules are provided in Section 691 (a) (1) and section 408 (d) (1) of the Internal Revenue Code[ii].
Therefore, when a lump sum amount is received by a beneficiary from the IRA of a decedent, that amount on the date of death will be considered income of the beneficiary for that financial year[iii]. The excess amount accumulated between the date of the death of a decedent and the date of receipt by the beneficiary also will be treated as income of the beneficiary and is taxable.
In a situation where a charity institution is named a residuary beneficiary to the IRA, the distribution received by the charity would be added to the gross income of the charity for that particular year[iv].
[i] Section 408 (e) (1) of the Internal Revenue Code
[ii] 26 USCS § 691
[iii] Rev. Rul. 92-47 (I.R.S. 1992)
[iv] PLR 200633009 (I.R.S. 2006)