Ask a Fool: I Inherited an IRA -- Can I Use the Money Before I Retire?

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Q: I'm 45 and just inherited an IRA from my father. Do I need to wait until I reach retirement age before I withdraw from the account?

If you inherit an IRA from someone other than your spouse, you cannot treat it as a retirement account in the traditional sense -- that is, you have to start taking distributions. Specifically, you have three choices.

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The first choice is to take a lump-sum distribution immediately. If you inherited a traditional IRA, this can result in a hefty tax bill, as distributions from traditional IRAs are treated as income, and an inherited IRA can easily catapult you into a high tax bracket.

The second choice is to withdraw the money over a five-year period. You can choose to take the money at any pace you choose over the five years, and the distributions don't need to be the same amount each year. This could be a smart option if you could use the money in the IRA to cover expenses, but don't want the massive tax hit of a lump-sum distribution from a traditional IRA.

Finally, you can choose to use the IRS' life expectancy tables to take small withdrawals each year based on your life expectancy. For example, as a 45-year-old, this method would require you to withdraw about 2.6% of the account's value this year. This is the most tax-friendly choice and is the way to allow as much money as possible to stay in the account and continue to grow tax-deferred.

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