Yes, beneficiaries usually pay income tax on inherited traditional pensions and retirement funds, treating it as taxable income similar to the original owner, especially on pre-tax contributions, though Roth accounts are generally tax-free; the amount depends on whether the money was taxed before (pre-tax) or after (Roth), the beneficiary's tax bracket, and special rules like Inherited IRAs which allow spreading the tax burden.
The pension payout
How your beneficiary is paid depends on your plan. For example, some plans may pay out a single lump sum, while others will issue payments over a set period of time (such as five,10, or even 20 years), or an annuity with monthly lifetime payments.
Lump-Sum Benefits
A mandatory 20% federal tax withholding rate is applied to certain lump-sum paid benefits, such as the Basic Death Benefit, Retired Death Benefit, Option 1 balance, and Temporary Annuity balance.
Death of a Person Receiving an IMRF Retirement Pension
When all the previously taxed contributions have been recovered, the entire pension will be subject to federal income tax. IMRF will inform the spouse when the pension becomes taxable.
You can typically inherit a large amount without federal taxes because the tax applies to the deceased's estate, not the recipient, and the exemption is very high: $13.99 million in 2025 and $15 million in 2026 per person, meaning most inheritances fall below this threshold. The key is that the estate's total value must exceed these limits for any tax to be owed by the estate. Inheritances themselves (cash, property) are generally not income, but earnings on them (like interest/dividends) or pre-tax retirement funds (like IRAs) are taxable.
Transfer assets into a trust
Certain types of trusts can help avoid estate taxes. An irrevocable trust transfers asset ownership from the original owner to the trust, with assets eventually distributed to the beneficiaries.
You can typically inherit a very large amount from your parents without paying federal tax, as the federal estate tax exemption is around $15 million per person for 2026, meaning only estates larger than that pay tax, not you directly. While you generally don't pay income tax on inheritances (except for pre-tax retirement funds like IRAs/401(k)s, which are taxed as income when withdrawn), some states have their own estate or inheritance taxes with much lower thresholds, affecting a smaller portion of wealth.
A: You can if your dad named you as the beneficiary, or if the plan's default rules place the account with you when no spouse or estate takes priority. Once inherited, you must follow IRS rules for distribution.
When do dependants get their money? Although the Pension Funds Act allows the trustees 12 months from the date of receiving notice of the member's death to find and pay beneficiaries, the fund will pay out the death benefit as soon as they have finalised the investigation.
Common mistakes in beneficiary designations include not accounting for all your assets, confusing designations and wills, and failing to regularly review and update designations based on life changes.
If you die before age 75, and haven't touched your pension, your beneficiaries will usually receive a tax-free lump sum. Your pension may pay out a lump sum worth two to four times your salary. Check with your scheme administrator for more details.
If a government employee dies while still in service, having completed at least 7 years of continuous service, the family pension will be 50% of the last drawn salary. This enhanced rate of 50% will be paid for 10 years starting the day after the employee's unexpected demise.
As of 2024, this exclusion is set at $18,000 per individual. This means that you can give up to $18,000 in cash or property to your son, daughter, or granddaughter individually without concern for tax implications. If you and your spouse make a joint gift, the exclusion doubles to $36,000.
The IRS $600 rule refers to a change in reporting requirements for third-party payment apps (like Venmo, PayPal) for taxable income from goods and services, where platforms must send a Form 1099-K if you receive over $600 in a year, intended to capture gig economy/side hustle income, though delays and phased implementation have adjusted the timeline, with current rules for 2024 using a higher threshold ($5,000) before fully phasing to $600 for future years, but remember all taxable income, regardless of form, must always be reported.
Yes, you can gift your son $100,000, but since it's over the 2025 annual exclusion of $19,000, you'll need to file a gift tax return (Form 709), though you likely won't owe taxes unless you've already used up your large lifetime exemption (over $13.99 million in 2025). Your son pays no tax on the gift, but you, as the giver, must report the amount exceeding the annual limit, which counts against your lifetime exemption.
Generally, beneficiaries do not pay income tax on money or property that they inherit, but there are exceptions for retirement accounts, life insurance proceeds, and savings bond interest.
Give more money away
Lifetime gifting is a straightforward way to begin reducing your IHT bill. By gifting money during lifetime, that would have been part of an inheritance anyway, you reduce the size of your estate so that there is smaller amount subject to IHT on your death.
Yes. If you already owe federal tax debt, the IRS can levy or garnish inherited money or distributions to satisfy the liability. Estate distributions can be intercepted during probate if the IRS has active claims against the beneficiary.
States That Don't Tax Pension Income