It's always been hard for people to save and invest, but tough conditions for many Americans have put a rising number of people into an uncomfortable financial situation. One in three Americans are counting on getting an inheritance from parents or grandparents in order to reach or maintain their financial stability, according to a recent report from Merrill Edge surveying a subset of reasonably well-off households. When you look at the college-age generation, that figure jumps to more than 60%.

For those who are fortunate to expect an inheritance, one of the most likely ways that many members of younger generations will receive them is through unspent IRA balances. Retirees often wait as long as possible before taking distributions from IRAs, because withdrawals have adverse tax consequences compared to leaving money in accounts. If you inherit one of those unspent IRAs, being aware of special rules can give you a lifetime of added benefits that many people inadvertently miss out on.

Blue and red road sign with IRA on it in white letters, under a blue sky with a few white clouds.

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The most common way IRAs get passed down

For those who are married, the most obvious and most common person named as beneficiary on an IRA is the person's spouse. The rules governing IRAs make it simple and effective for surviving spouses to inherit retirement account assets. All they have to do is to roll the deceased spouse's IRA into an IRA in the spouse's own name. That can be an existing account or a new account created specifically to hold the rolled-over assets.

Once the money is in the surviving spouse's name, it's treated exactly like any other IRA. The surviving spouse's age will determine when penalty-free withdrawals can be made, as well as when required minimum distributions begin and how much is required to be taken out.

The big opportunity for young heirs

No one other than a surviving spouse has the option to roll over an inherited IRA into an IRA in their own name. Instead, beneficiaries who aren't spouses have a number of alternatives. They can take the money out of the IRA in a lump sum. There are two downsides to this option. First, if the IRA is a traditional IRA, the withdrawals will be subject to immediate income taxation. Second, it immediately stops the tax benefits of having money in the retirement account, although early withdrawal penalties do not apply on account of distributions based on the death of the original accountholder.

The smarter choice that nonspouse beneficiaries can make is to have a beneficiary IRA account established. Typically, those will have an account title that looks like "Riley Jones, as beneficiary of the Jessie Jones IRA."

Using a beneficiary IRA account gives nonspouse beneficiaries the chance to stretch out their distributions from the account throughout their lifetimes. Each year, you take the amount of money that was in the IRA at the end of the previous year. You then use an IRS-provided factor to determine the minimum amount of money you're required to take out of the IRA in that year. As an example, using the table, you can see that the figure for a 20-year-old beneficiary is 63 years. If the value of the IRA at the end of the previous year was $63,000, then the stretch IRA method would require a distribution of $63,000 divided by 63 or $1,000. The following year, you'd take the new year-end balance and divide it by 62, with the divisor dropping by one year for every year that passes.

Be smart with an inherited IRA

The reason the stretch IRA is option is so useful is that it lets you maximize the amount of time you get to keep enjoying the tax benefits of the IRA you inherited. For a traditional IRA, it lets you spread out the tax burden of withdrawals while the IRA assets keep growing tax-deferred. For a Roth IRA, it lets assets produce maximum tax-free income throughout your lifetime. You won't get any of those benefits if you just pull out the money right away.

Inheriting an IRA can be the key to your financial health, and you can't afford to squander the opportunity if it arises. Knowing your options can make your inherited IRA work as hard as it can for you.