Inherited Roth IRA held less than 5 years

Thank you in advance for your help on this. I have tried but cannot find definitive answers to my questions.

1. In 2020, my client inherited a ROTH IRA that had been opened by his deceased mother in 2017. The deceased had another ROTH IRA that had been open for well over 5 years. The client, who is under age 59 1/2, took the entire amount as a distribution in 2020. Is the distribution in excess of the deceased's basis subject to the 10% penalty?

2. The client and his wife contributed $6,000 each to their less than one-year-old ROTH accounts for 2020. After his mother passed, the joint income was increased by so much they no longer qualified to make the contribution. They requested a timely withdraw of the excess to avoid the 6% tax. However, the distribution included earnings of $1,300 each! A pretty good return wouldn't you say! It is my understanding the earnings are reported on the 1040 line 1 and ARE subject to the 10% penalty. Am I correct?

As to your first question, if you are talking about the deceased mother has two distinct ROTH IRA accounts, then you are looking at it wrong. A person has ONE roth ira, just like they have ONE ira. It may be with different custodians at different banks or brokerages, but they still have just ONE roth ira. So if deceased mother opened one over 5 years ago, then ALL her roth ira accounts are considered over 5 years old because they are really just sub-parts of the one.

That is why the custodian may mark the roth ira distribution as "taxable amount unknown" because the custodian doesn't know FOR SURE if the TP has another roth ira that was >5 years old. However, if the roth ira WITH THAT CUSTODIAN is over 5 years old, then that custodian knows the answer for sure.

This makes sense when you think about RMDs. Let's say you have 5 different IRA accounts scattered with different custodians (banks, brokers, etc.) As long as the total distribution from ALL of them are equal or greater than the RMD, then you are OK. So the RMD payment could be all from one account, and then none from the other 4.

Age 59-1/2 is not relevant for an inherited roth ira. No penalty for "early withdrawal" due to death. The 10% additional tax on early distributions doesn't apply because the distribution was made to the beneficiary as a result of the death of the IRA owner.

Are you including the roth ira distributions in their income? I don't believe that is correct.

As to your first question, if you are talking about the deceased mother has two distinct ROTH IRA accounts, then you are looking at it wrong. A person has ONE roth ira, just like they have ONE ira. It may be with different custodians at different banks or brokerages, but they still have just ONE roth ira. So if deceased mother opened one over 5 years ago, then ALL her roth ira accounts are considered over 5 years old because they are really just sub-parts of the one.

Thank you. This is where I was doubting myself. Thank you for the clairification.

Age 59-1/2 is not relevant for an inherited roth ira. No penalty for "early withdrawal" due to death. The 10% additional tax on early distributions doesn't apply because the distribution was made to the beneficiary as a result of the death of the IRA owner.

This is what I thought, but was still worried about individual custodians each needing their own 5 year rule for an inherited ROTH IRA

Are you including the roth ira distributions in their income? I don't believe that is correct.

No, I am not including the distributions in their income. I was just curious if I needed to find the deceased's basis and charge the 10% penalty on the earnings because the account was less than 5 years old. I now understand that would be incorrect. Also, the 1099R came in with the box 2 taxable amount equal to the box 1 distribution, and the distribution code was 4! I have asked the client to request a corrected 1099R, but he has been met with resistance. I think box 2 should be zero, a check in the taxable amount not determined, and box 7 code to be T. Would this be correct?

Code Q if it is known the participant met the 5 year rule, otherwise code T.
Sounds like a traditional IRA.
Have you got the 5498's?

I don't think I got the 5498 for this particular account. However, the client did provide me the paperwork from when it was cashed out. That paperwork very clearly shows the account to be a ROTH IRA. I think the small local bank just did not know what the code should be. They told the client, "...that is the way we always code inherited IRAs"!