I will receive an inherited IRA. When cashing it out, should I have taxes withheld?
A: In general, when cashing out an inherited IRA, you should have taxes withheld. Assuming that the IRA is a regular IRA, as opposed to a Roth IRA, the proceeds will be taxable. The IRA trustee will be required to withhold at least 10% federal income tax unless you elect not to have taxes withheld. If you elect not to have taxes withheld and you owe tax with your return, you may have underpayment of estimated tax penalties in addition to the tax due.
The 10% withholding may not be enough if you are in a higher tax bracket. You can instruct the trustee to withhold more so as to not be short. As an alternative to withholding, you can make estimated tax payments. Many people choose withholding because it is easier.
California does not require withholding from IRA distributions, but many recipients will have taxes withheld to avoid underpayment of estimated tax penalties and to avoid having to write a big check to the FTB with their state tax return for the year of the distribution.
Taxes on inherited IRAs can be deferred under certain circumstances. The distribution can be rolled into an inherited IRA in the name of the recipient. There are time constraints as to when the funds must be deposited into the inherited IRA and the account has to be properly titled as an inherited IRA. Consult with your financial advisor if you want to roll the distribution into an inherited IRA.