What happens to your IRA or 401 (k) When You Die?

Many people are unaware that the IRA and an employee benefit plan other than deferred tax was subject to taxation in a number of ways in his death. May be taxed by the federal government as part of the federal tax. May also be taxed by the State of Illinois for the property tax in Illinois. In addition, there are specific rules about when the money in these accounts must be removed by the beneficiaries, which are complicated, depending on the circumstances, the beneficiary and the case of a trust, because trust qualifies as a "look through" trust . In any case, when the recipients get the money from the plan, is subject to federal income taxes on it.

As you probably read in the press, the federal tax was amended for a period of two years to allow Congress to take a look at the various options for federal tax. Some in Congress wanted to eliminate the tax, some wanted to increase the exemption, but no consensus at that time. Congress enacted legislation increasing the lifetime exemption to $ 5.0 million. This generally means that if your estate is over $ 5.0 million, your estate will be subject to tax on everything above $ 5.0 million, at a rate that starts at the 45% bracket.

The State of Illinois has changed the property tax several years ago, and receiving less tax revenue from the assets of people who died. The state had been connected with the federal system before. When the federal government raised the exception, most farms did not have to pay federal taxes, meaning that most farms did not have to pay taxes to the State of Illinois. Accordingly, the State of Illinois has changed the tax to provide an exemption of $ 2.0 million. Everything above that amount is taxed at 17%.

How does it work in practice? Let's do a couple of examples. For the first example, say your estate (including life insurance, 401 (k), the house, mutual funds, stocks, bonds and other assets) is $ 6.0 million and included in your 401 plan (k) and IRA for about $ 1.0 million. All over the $ 5.0 million is taxed at 41%, making it a federal tax of $ 450,000. For the purposes of Illinois, all over the exemption of $ 2.0 million is taxed at 17%, so that the tax on the capital of Illinois is about $ 680,000. Until now, the tax on 401 (k) and IRA is 62%.

When funds are drawn from the 401 (k) or IRA, the beneficiary pays the tax at the highest marginal rate. For purposes of example, suppose the rate is 35% for federal purposes. Illinois residents pay no Illinois income tax on pensions and annuities, so no additional taxes for residents of Illinois.

As a result, in this simple example, the total tax rate for federal taxes and state and federal income tax is a whopping 97%!

Of course, if your property is in the $ 5.0 million and are not subject to federal estate taxes, there may be 17% of Illinois property taxes (assuming your estate is above 2.0 million dollars and under U.S. $ 5.0 million), along with federal income tax at the highest marginal rate of the recipient. The total tax rate in that circumstance would still be 52%!