In this conversational video, CFP® Craig Wear and his son Dawson discuss a little‑known tax trap that hits families with large traditional IRAs when the account owner dies. While most estate plans (wills, trusts, powers of attorney) correctly designate who receives the IRA, they do not address the fact that inherited traditional IRAs are taxed as ordinary income and must be fully distributed within ten years. This can push heirs into the highest federal tax brackets, dramatically shrinking the net inheritance. Craig explains that unlike stocks or real estate, IRAs do not receive a step‑up in basis, so the tax liability rides along with the asset. He illustrates the problem with a real‑world example: a couple with a $2 million IRA that could grow to $4 million, forcing heirs to withdraw up to $400 k per year and face 32‑37% marginal tax rates. The solution he proposes is strategic Roth conversions—moving money from a traditional IRA into a Roth IRA before death—so that heirs inherit tax‑free growth and avoid the ten‑year distribution rule’s income impact. Craig teases a follow‑up video that outlines three steps to optimize Roth conversions for the current year.
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So did you know your kids can lose a massive chunk of money when they inherit your IRA, even if you're an IRA millionaire? I'm here with my son Dawson, and one day I want to pass down wealth to you, son, without causing you a ton of taxes.
Yeah, I really don't want to deal with that. And you know, my brother, he just had a kid and I don't want that for his family either.
Of course. So look, I've spent over 20 years helping IRA millionaires reduce lifetime taxes. And one of the biggest surprises for families is realizing how their estate plan is leaving a huge tax bomb for their kids.
Yeah. So in this In this video, we're going to show you the IRA mistakes that leave your children with a massive tax bill, how to protect more of your wealth from ending up with the IRS instead of your family, and why having a will, trust, or even an estate plan in place still doesn't really ensure your kids keep more of what you leave them.
Yeah, so if you want to protect your kids from that kind of a tax, you first need to understand the tax trap that's hiding inside so many estate plans. You see, most people put together an estate plan and they feel like the hard part is over. They got the will, maybe a trust, medical powers, and everything looks finished. So they stopped thinking about it because writing down who gets your money means everything will work out that way, right?
No, no, no. I mean, I wish it did, but that's not how it works. I mean, this is where a lot of families get blindsided, right, Dad?
Yeah, you got it. I mean, estate planning for IRA millionaires creates a real false sense of control that doesn't actually address the part that matters the most and Yeah, it makes it clear where the money goes, who receives it, and make sure everything's intentional. But none of that tells you what actually happens when they inherit your IRA. And that's the part many people never stop to question. They think, well, if the plan's in place, well, obviously the problem's solved.
Okay, so there's a big difference between controlling an asset and protecting it?
Yeah, because your estate plan doesn't truly decide how much of the large IRA your kids actually get to keep. The IRS does. And that's the tax trap that's hiding inside so many estate plans for IRA millionaires.
Okay, so it's kind of like ordering your kids a brand new outdoor grill, but when they go to try it out, turns out to be just a cheap knockoff. I mean, it's a stainless steel, it's stainless plastic, and the whole thing just catches fire immediately.
I guess that's kind of a different analogy, but it works. And people think that transfer planning protects their kids when they're actually leaving them exposed. To a massive income tax burden. So to avoid that and actually leave your kids the wealth you worked so hard to build for so many years, you need to understand what's really happening behind the scenes when they inherit that IRA.
Okay. So tell us more details about this inheritance tax burden.
Well, look, when your kids inherit your IRA, they're also inheriting the tax bill that's still inside of it. And when the IRA is 7 figures, it really exaggerates the tax hit. And this is where A lot of people miss what's really going on. They assume the inheritance itself is the event and that once the money passes to the kids, the plan has done its job. But with a traditional IRA, the real problem doesn't show up at the moment of transfer. It shows up when that money has to come back out. And every dollar your kids pull from that inherited IRA is treated as ordinary income for the kids. So even though the account passed through the estate plan exactly the way it was supposed to, the taxes passed right along with it. And under current law, those taxes don't Don't just wait to be paid indefinitely. Your kids have to empty the large inherited IRA within 10 years. So if you've left them with a big chunk of money, the forced withdrawals will push their income tax into much higher brackets.
All right. So they don't inherit the wealth you left them. They're just inheriting taxable income then.
Yeah. I mean, it's, it's wealth, but it's wealth that has a big tax bill still associated with it. The inherited IRA trap that most families never really account for the taxes that are still there. And it's not just the 10-year window that returns your IRA into a tax There's actually another layer that can suddenly make this a whole lot worse. So to make this real life, I want you to consider a real life client case that I had several years ago, but we see this every week. Let's say this client in particular had $2 million in their combined IRAs. If the second spouse dies 15 years from today, that $2 million IRA could eventually be easily a $4 million account that has to be liquidated within no more than 10 years. So that could be $400,000 a year that's additional taxable income for the kids. And every withdrawal from that inherited IRA gets treated as ordinary income. So we have to look at what kind of tax return those withdrawals are landing on. And that's where this gets even more dangerous than it appears. Your kids often inherit the money during the exact years when adding more income hurts the most. When they're already making good money or they're about to retire and they've already got their own tax plan and all of a sudden their tax bill gets really, really high. So now those inherited IRA withdrawals push them into some of the highest tax brackets they're ever going to face. What looked what looks like a large inheritance on paper can shrink really fast once distribution starts stacking into the 32%, 35%, or 37% bracket.
Man, I mean, after losing a parent like that, and then you have to deal with that tax bomb waiting there, man, that's a lot to hit a kid.
That's the tax trap in action. But there's another reason so many families never see that tax burden coming in the first place.
Wait, there's more?
There sure is. A lot of assets inherited at death get favorable tax treatment. But if your kids inherit stocks, real estate, or other taxable assets, those assets can receive what's called a step-up in basis. So that just simply means that the value gets reset when they inherit it, so they don't owe all the capital gains tax on all the appreciation that happened during your lifetime. But traditional IRAs don't get that step-up in basis. So even though the IRA gets passed down like an asset, it doesn't get treated the same way for tax purposes.
So it's like leaving your children two identical safes with a million dollars inside.
Okay.
But only one of them gets the combination and the other one can only really open the safe by calling the guy who knows the guy that knows the combination. And every time they call, they have to pay him to come open it.
Yeah. Not a bad analogy, Dawson, but that's why so many families miss without realizing it. They apply the same tax rule to every kind of inherited wealth, even when those assets work differently in practice. That's why estate planning alone just doesn't solve the real issue. It controls who receives the IRA, but it does nothing to change the income tax burden that the IRA comes with. And that's what determines how much of that wealth your kids actually get to keep.
So what can you do alongside estate planning just to make sure your children get to keep as much of your wealth as planned?
Well, that's where the different asset types kind of work in our favor, right? Because retirement accounts don't have a step-up in basis, there are other rules that make a big difference. When used strategically. And when it comes to retirement accounts, that difference matters really more than most families realize because while a traditional IRA adds taxable income, a Roth IRA doesn't. So if we can move the IRA funds into a Roth IRA, our kids inherit more of that money and withdraw it totally tax-free. And that's where Roth conversions start to matter. Using them to move money out of your traditional IRA lowers the total amount your kids are forced to pay in tax.
And by moving it into a Roth IRA, you're still keeping that money where it can keep growing without causing a massive tax problem for your children.
So if you want to make sure your kids inherit more of your wealth instead of more of your tax bill, the next step is knowing how to optimize your Roth conversions the right way. So look, go watch this next video where I explain the 3 steps that will help you optimize your Roth conversions this year.
