Q. When a New Jersey resident dies and leaves an IRA to Class C and D heirs, do these heirs have to pay income tax on their RMDs — in addition to the inheritance tax? Are we taxed twice?
— Planning ahead
A. You’re not going to like this.
Everyone has to include in their income — and pay tax at the applicable rate less any exemptions or credits — Required Minimum Distributions (RMDs) from traditional IRAs, said Catherine Romania, an estate planning attorney with Witman Stadtmauer in Florham Park.
It doesn’t matter whether you are the original contributor to the IRA or someone who inherits it, she said.
These RMDs are based on the value of the IRA and life expectancy.
The New Jersey inheritance tax is calculated on the value at the date of death of the asset inherited and the beneficiary’s relationship to the decedent, Romania said. For siblings or beneficiaries of more distant relationships, the tax rate is between 11 and 16 percent.
Here’s the most important part: Most assets will obtain a “step-up” in basis to the date of death value. In other words, the beneficiary’s basis in the asset will be the date of death value and not the decedent’s basis in the assets.
“The difference between the decedent’s basis and the value at the time of death, which would generally be taxed as capital gain at the time of transfer or sale, will not be taxed at the time of death or later sale by the beneficiary,” she said. “This is not the case for IRAs or other annuities which do not have the benefit of a step-up in basis.”
Although this single negative factor should be considered, Romania said, it does not outweigh the benefits of IRAs, such as the ability to grow your earned income tax-deferred until withdrawal and the income tax deduction given to the original depositor upon contributing the funds to the IRA.
So are we paying taxes twice? Indeed.
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