Is a Transfer on Death (TOD) Account an IRA?

A Transfer on Death (TOD) account and an Individual Retirement Arrangement (IRA) are not the same. While both involve designating beneficiaries, they are built for different financial purposes and are governed by distinct sets of rules. Understanding their unique roles is part of managing your financial life and ensuring your assets are handled according to your wishes.

Defining the Transfer on Death Account

A Transfer on Death designation is not a type of account, but a legal instruction attached to a non-retirement account. Think of it as a feature you can add to standard brokerage accounts or savings accounts. This feature provides a directive: upon the account holder’s death, the assets within that account are transferred directly to the named beneficiaries. You can generally add or change a TOD beneficiary at any time by completing a form from your financial institution.

The function of this designation is to bypass the probate process. Probate is the court-supervised procedure for distributing a deceased person’s assets. By using a TOD, the ownership of the account’s assets transfers automatically and privately to the beneficiary upon presentation of a death certificate. This arrangement does not alter the account holder’s complete control over the assets during their lifetime.

Defining the Individual Retirement Arrangement

An Individual Retirement Arrangement, or IRA, is a savings account created with the purpose of saving for retirement. Its structure is defined by federal tax law, offering tax advantages to encourage long-term saving. These accounts are regulated investment vehicles for building a nest egg for your post-working years.

There are two primary types of IRAs. A Traditional IRA may allow you to make tax-deductible contributions, and investments within the account grow tax-deferred until you pay income tax on withdrawals in retirement. A Roth IRA operates in reverse; you contribute with after-tax dollars, so your investments grow tax-free, and qualified withdrawals in retirement are also tax-free. Both are subject to annual contribution limits and have rules regarding withdrawals before age 59½, which typically incur a 10% penalty plus income tax.

Primary Differences in Function and Purpose

The distinction between a TOD designation and an IRA lies in their core purpose. A TOD is an estate planning tool focused on avoiding probate for non-retirement assets, and its value is realized only after death. An IRA is a retirement savings vehicle used throughout your life to accumulate wealth through tax-advantaged growth.

This difference in purpose leads to different tax treatments during the account holder’s life. Adding a TOD designation to a brokerage account has no immediate tax consequence, and you continue to pay taxes on dividends and capital gains as usual. An IRA’s structure is built around tax rules, whether it’s the upfront deduction of a Traditional IRA or the tax-free withdrawals from a Roth IRA.

Access to the funds within these accounts is also different. An account with a TOD designation remains fully accessible to the owner without restriction or penalty. You can withdraw funds or close the account at any time. Accessing funds from an IRA before retirement age is discouraged by tax law, with early withdrawals typically subject to both income tax and a 10% penalty.

Using a Beneficiary Designation on an IRA

While the term “TOD” is reserved for taxable brokerage and bank accounts, IRAs achieve the same probate-avoidance goal through their own required beneficiary designation forms. When you open an IRA, you are prompted to name beneficiaries. This feature ensures that the retirement assets pass directly to your chosen heirs by contract, bypassing your will and the probate court.

Naming a beneficiary on an IRA makes it function like a TOD account for asset transfer, but the similarities end there. A beneficiary who inherits a standard brokerage account through a TOD designation receives the assets with a “stepped-up” cost basis. This means the value of the assets is adjusted to their market value at the time of death, often erasing any capital gains tax liability on the appreciation that occurred during the original owner’s lifetime.

In contrast, a non-spouse beneficiary who inherits an IRA does not receive a stepped-up basis and must follow specific IRS distribution rules. For most non-spouse beneficiaries, the SECURE Act mandates that all funds from the inherited IRA must be withdrawn within 10 years. These withdrawals are generally taxable as ordinary income, subjecting the heir to tax consequences that do not apply to assets inherited via a standard TOD.