Key Takeaways
- Traditional IRAs can create distinct tax problems that affect the original account owner, a surviving spouse, and beneficiaries who inherit the account.
- The SECURE Act changed inherited IRA rules, requiring many beneficiaries to empty inherited accounts within 10 years. For heirs in their peak earning years, those distributions may increase taxable income when their tax rates are already high.
- Proactive, multigenerational traditional IRA tax planning may help families greatly reduce lifetime tax exposure, especially when large pre-tax retirement balances are involved.
One Decision Could Change Everything
Let’s say in the 1990s, a father converts a substantial portion of his traditional IRA to a Roth in his early 60s. By the time he passes away, that account has grown to several million dollars. His adult son inherits it completely tax-free.
That one conversion decision, made almost 30 years ago, saved his family a significant amount in taxes across two generations.
What if that money had stayed in a traditional IRA instead?
His son would face mandatory withdrawals over 10 years, adding every inherited dollar on top of his own salary to be taxed all together at whatever rate applied to his total income each year.
Now, the example I shared above is a hypothetical one, but in my experience working with high-net-worth families, a well-timed conversion decision can mean the difference between passing on wealth and passing on a tax obligation.
What Makes Traditional IRAs a Tax Risk for Families?
IRAs are commonly seen as straightforward retirement assets. Many people don't realize they can create a multi-decade tax problem, not just for the owner, but for their spouse and children.
A traditional IRA carries a deferred tax obligation that never disappears. Every dollar contributed pre-tax is money the IRS is still owed, and that obligation doesn't end with the account owner. It transfers at death to their surviving spouse and eventually to their children, often at the worst possible time in their tax lives, when earned income is highest. High-net-worth families with substantial traditional IRA balances are often the most exposed to this tax risk, because that deferred obligation doesn't just transfer to the next generation. It compounds.
For high-net-worth retirees and pre-retirees, these three common tax problems implicit in traditional IRAs are worth understanding before it's too late to act.
1. Required Minimum Distributions (RMDs) May Drive Up Your Tax Bill in Retirement
Many retirees are surprised to find that their tax bills in retirement are higher than they anticipated. The larger your IRA, the more pronounced this effect can be.
Starting at age 73, or 75 depending on your birth year, the IRS requires you to take distributions from your traditional IRA, regardless of whether you need the money. These withdrawals are taxed as ordinary income, which means they can push you into a higher bracket, increase the portion of your Social Security that is subject to tax, and trigger Medicare premium surcharges.
2. The Surviving Spouse's Unexpected Tax Burden, or the ‘Widow's Penalty’
When one spouse passes away, the survivor may eventually lose access to the wider married filing jointly tax brackets and larger standard deduction. While household income often decreases, it may not fall by enough to offset the shift to single-filer tax treatment. As a result, the surviving spouse may face a higher tax rate on similar levels of retirement income. Known as the ‘widow's penalty’, this phenomenon can create a sudden and lasting tax increase at a time when the surviving spouse is already navigating a major personal and financial transition.
3. The 10-Year Rule That May Push Beneficiaries into Higher Tax Brackets
The SECURE Act fundamentally changed inherited IRA rules by eliminating the stretch IRA, which previously allowed beneficiaries to spread distributions over their own lifetime. Under current inherited IRA distribution rules, most beneficiaries other than surviving spouses must empty the inherited account within 10 years of the original owner's death.
For adult children still in their peak earning years, this can mean stacking large inherited IRA withdrawals, which are taxed as ordinary income, on top of existing salaries, which can result in a tax burden on every inherited dollar. In addition, RMD rules for inherited IRAs can also increase complexity within that 10-year window, depending on whether the original owner had already begun taking distributions.
How to Reduce Traditional IRA Taxes Across Generations
Many people with large IRA balances did not intentionally set out to create future tax problems. A 401(k) through an employer is often the default retirement savings vehicle, and over time, that pre-tax balance can grow substantially. However, leaving a large pre-tax balance unconverted comes with the risk of a heavy tax burden for your heirs later.
Multigenerational IRA tax planning involves looking at all three stages together—your retirement, your spouse’s future tax picture, and your children’s inheritance—and creating a strategy to help manage the total tax impact over time.
This can include:
- Roth conversions during lower-bracket windows before RMDs begin
- Distribution strategies to help reduce the surviving spouse's future tax exposure
- Beneficiary planning around the 10-year rule and your children's likely income
The goal is to shift more of the tax obligation into years when rates may be lower, rather than allowing it to build and land at the least favorable times. For high-net-worth families, that can mean more control during retirement, more flexibility for a surviving spouse, and a more tax-aware inheritance strategy for the next generation.
Ready to Review Your IRA Strategy?
If you have significant assets in a traditional IRA, multigenerational tax planning may be one of the most important financial conversations you have this year.
Schedule a complimentary review or call us at 610-388-7705 tostart the conversation.
About the Author: Charles Welde, CPA, CFP®, is a financial advisor and founder of The CP Welde Group, a wealth management firm based in Chadds Ford, PA. He specializes in retirement income planning, tax-efficient strategies, and holistic wealth management for high-net-worth individuals, families, and business owners throughout the greater Delaware County area. Charles is also a member of Ed Slott’s Master Elite IRA Advisor Group and host of the Re-Engineering Your Finances podcast.
Frequently Asked Questions About IRA Tax Planning for High-Net-Worth Families
What is the ‘widow's penalty’?
While not an official tax designation, the ‘widow's penalty’ refers to the tax increase that often follows the death of a spouse, caused by the loss of married filing jointly tax brackets and the higher standard deduction. When a spouse passes away, the survivor typically faces higher tax rates on a similar level of income, often with little warning or time to plan.
What is the 10-year rule for inherited IRAs?
The 10-year rule is a provision of the SECURE Act, passed in 2019, that requires most beneficiaries other than surviving spouses to fully distribute an inherited IRA within 10 years of the original owner's death. For beneficiaries in their peak earning years, the compressed timeline can result in a significant tax burden on every inherited dollar.
When is the right time to convert a traditional IRA to a Roth IRA?
The right time is generally when your current tax rates are lower than you expect them to be in the future. For many high-net-worth individuals, that window falls between retirement and age 73 or 75 depending on your birth year, before RMDs begin and while you still have flexibility in how much income you recognize each year. Other common opportunities include years with lower income, business transitions, or the final joint filing year after a spouse's death.
Is it too late to consider multigenerational IRA tax planning if I am already in retirement?
For many families, the window to act remains open well into retirement. Even after RMDs begin, there may be strategies worth considering depending on your account balances, income, family situation, and goals. A conversation with a financial advisor who specializes in comprehensive retirement planning can help clarify what options may still be available.