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Should a 22-year-old have an IRA?

A reader's son just inherited an IRA from his grandmother. It's not a big amount now, but if he plays his cards right, it could make him a millionaire one day.

By MSN Money Partner Nov 12, 2013 2:45PM

This post comes from Stacy Johnson at partner site Money Talks News. 

Money Talks News on MSN MoneyToday's reader question is about retirement accounts. Specifically, whether a 22-year-old who inherited one should let it ride, or take the money and run.

Here's the question:

Hi Stacy,
My 22-year-old son is about to inherit just under $50,000 as a result of being named as a beneficiary to an IRA account from my recently deceased mother. Her financial adviser has strongly recommended he simply roll the money over into an IRA account in his name that he won't be able to access until he's 59½. While I can see the benefits of reinvesting that money, I'm just not convinced that it is his best option. What are some other shorter-term investment options, five- to 10-year plans, that you would suggest?
Much appreciated! -- Sue

IRA and 401k © Photodisc, SuperStockFirst, Sue, I'm sorry for your loss.

When my father died a few years back, he left some money to me, my older sister and my niece, who was about 25 at the time. I salted my money away, and as far as I know, so did my sister.


My niece, on the other hand, used most of hers to supplement her meager income, although she did use the last of it for a wise purchase: a small house, which she bought cheap during the housing bust.

If I still had them, I'd share the emails I sent to my niece practically begging her to invest her inheritance rather than spend it. But now it seems I have another chance with Sue and her son.

Inheriting young is like being born rich

Imagine that when you were 22, you were handed the opportunity to have $2.2 million at age 62.

I'm not talking about working, scrimping and saving. I'm talking about just being handed an extra check for that amount on your 62nd birthday. Wouldn't that be nice?

That's the opportunity Sue's son now has. If he earns 10 percent annually on that 50 grand, and never adds a penny, 40 years from now it will have grown to $2,262,962.

While $50,000 isn't a game-changer, $2.2 million is. And while I obviously don't know what Sue's mother had in mind when she left that money to her grandson, I'll bet she hoped it would one day make a significant difference in his life.

Here's the bottom line: Being born so rich you never have to worry about money would be ideal. But the next best thing is having the opportunity to avoid worrying about retirement. Sue's son has that opportunity, and he should seize it by leaving that money alone to whatever extent possible.

Inherited IRAs are complicated

The rules surrounding inherited IRAs are complex. If you want to read about them in mind-numbing IRS-speak, begin on Page 36 of IRS Publication 590.

Your options for an inherited IRA depend on the type of IRA (Roth vs. regular), whether the person you inherited from was over 70½ when she or he died, the ages of other non-spouse beneficiaries, and other factors.

You can read more about your options, including rolling the IRA over into a special IRA, by reading "How to Inherit an IRA" from CBS MoneyWatch. Warning: Although this article is light reading compared with IRS Publication 590, it's still no walk in the park.

You may be best off talking to a tax professional. But the gist is, there's more to inheriting an IRA than "simply roll[ing] the money over into an IRA account in his name." If their financial adviser doesn't understand that, they need to find one who does.

Leave it in an IRA as long as possible

While the mechanics are complicated for IRA beneficiaries, one likely option will be using an inherited IRA beneficiary distribution account, or IRA BDA. This is essentially an IRA rollover. If he's eligible for that option, Sue's son should use it.

Leaving as much as possible within an IRA offers several advantages:

  • Earnings compound tax-deferred. Until they're withdrawn, no taxes are due on earnings in a traditional IRA.
  • No penalty. If he takes excess distributions from the IRA, Sue's son will pay a 10 percent penalty on the amount withdrawn.
  • No taxes. Take a distribution and you pay taxes on the money as if it were ordinary income.

In short, the only time to make withdrawals from an IRA prior to age 59½ is when you have no choice. Inherited IRAs typically do require distributions before then, however, so Sue's son will likely be forced to take money out anyway. But he should keep it to a minimum, and immediately put any money withdrawn back to work elsewhere. 

Don't confuse an IRA with a lack of flexibility

Keep in mind that an IRA isn't an investment. It's an investment account. While it's true that you can't withdraw money from a regular IRA whenever you want without taxes and perhaps penalties, as long as it remains in the account, you can buy, sell and invest it however you like, as often as you like.

For example, you can buy stocks. That's where I got the 10 percent rate of return I used in the compounding example I provided above. Depending on which index you use, that's about the average annual return for stocks over the long term.

Of course, stocks involve risk. They don't go up at a steady 10 percent per year. Because of their volatility, they're best for those with the time to ride out the ups and downs -- for example, 22-year-olds.

Avoid commission-based financial advisers

While I agree with the recommendation from Sue's mother's financial adviser, I may not agree with leaving her son's account with that adviser.

Despite the fact that I spent 10 years as a commission-based adviser -- or maybe because of it -- I don't recommend these folks. Fee-based advisers are more objective than those earning commissions and are more likely to suggest investments that will benefit you, rather than them.

More on Money Talks News

Nov 13, 2013 2:51AM
What isn't mentioned is that this boy will never really have to save for retirement - the money he earns will be his to use as he pleases. I am not saying he shouldn't save anything (especially for a "rainy day") but the long term constant saving for retirement can be, overall, avoided.  
That would be great - the ability to pay off a school loan faster, car loan faster, house loan faster, with the money most people would be putting toward retirement.
Nov 13, 2013 9:02AM
Nov 13, 2013 10:06AM

let's put aside the fantasy of getting 10% returns for life as you state.  the investment industry loves to post this amount.  it's enticing.  the reality is quite a bit different. 


in my 35 years since working, easily 15 years have been depressed markets, depressed returns, etc.  to the point were most investment companies "claim" now a 6% return.  i watched investment companies claim upwards of 12% returns.  with their disclaimer that "your results may vary". 


that 6% return would be about $545,000 by the time the boy reaches 62 years old. 


now if he spent that money on college?  what would his future be?  if he used it as a down payment on a house?  what would his future be? 


sounds like the writer really wants to collect fees on that $2,262,962.  or get all of that $50,000......


i'd tell the kid to put aside his yearly IRA for a few years and make sure college is paid in full.  assuming he gets a functional degree and not something in "communications". 

Nov 13, 2013 3:36PM
Be careful what "professional" you get advice from.  My siblings and I each consulted tax, accounting and law professionals--and got three different sets of advice--all of which were, sad to say, wrong.

If I had it to do over, I'd just go buy a book on inherited IRAs and read it myself.  We lost a lot of money because of these "professionals," and we had to pay them for their bad advice, too.

Nov 13, 2013 12:57PM
NO --- another government promise.
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