Can a 401k Be Rolled Over To a 'Stretch' IRA By My Beneficiary?

Q. Can a 401k be rolled over, by my beneficiary, to a 'stretch' IRA after my death? James

A. James, this is a great question.

Whether or not your beneficiary can rollover your 401(k) at your death (and subsequently stretch it) depends on who your beneficiary is and the terms associated with your company plan.

Let's assume for the sake of illustration that you have a spouse and 3 children.

If your spouse is beneficiary, she can roll the money from your 401(k) to her own IRA. Assuming that she has named the 3 children the beneficiary of her IRA, they would have the ability to stretch it at her death. Ideally, she would divide the money into 3 IRAs and name one child as the beneficiary for each one. That allows each child to stretch the IRA over their life expectancy. If the 3 children are the beneficiaries of 1 IRA then it would be stretched based on the oldest beneficiaries life expectancy.

On the other hand, if your children are the beneficiaries of your 401(k) plan they may or may not be able to stretch it. Let me explain. The tax laws allow for beneficiaries to stretch out distributions but most company retirement plans do not permit it. The reason is simple--the stretch can take place over decades. If the company allowed that then they would be responsible for all the administration necessary. There isn't any benefit to the company to do so while it exposes them to potential liability.

Instead, most company plans will cash out the beneficiaries at the death of the employee. At best, the beneficiaries may be able to stretch it out over 5 years.

Realize what this means. Let's say you have a $600,000 401(k). If your wife is the beneficiary, she can roll it to her own IRA and then when she dies, the children can stretch it. If a child is in their 50's, that means that taxes can continue to be deferred (except for the annual required distribution) for almost 30 years. If those children were the beneficiaries of the 401(k) and were cashed out at your death, they do not have the ability to roll that money to an IRA. They would have to pay taxes on all of that money in the year it was distributed. In our example, that would be $200,000 in ordinary income that year! That will bump the child's tax bracket and could result in 35% of it being lost in taxes right away. That's losing $70,000 right away not counting the literally hundreds of thousands they will lose by not being able to stretch those distributions.

Even if you have your wife as the primary beneficiary of your 401(k) and your children as the contingent beneficiaries, you are opening up the possibility of the children not being able to stretch distributions. If your wife passes away before you, or you both die in an accident, the 401(k) money would go to the children and most likely be distributed immediately.

There really aren't any benefits to keeping your retirement money in a 401(k) after your retire. All of this is easily avoided by you simply rolling that money to your own IRA. Your investment options will be much greater and so will your flexibility and control.

If I can be of help or if you would like to discuss ways in which the IRA can be invested just let me know.

[For more Free Financial Advice and information about 'stretch' IRA's read How To Stretch Your IRA - Tax Free and Q&A Stretching An IRA in our Article Repository at http://www.guardingyourwealth.com/]

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