It is my understanding the balance of an Inherited IRA (beneficiary is not a spouse), must be paid out by the end of the 5th year following the death of IRA account owner. The problem is the stock was worthless upon the IRA owners death and still worthless 5 years following his death. It wasn't until 10 years after his death was their any value to the stock. In a situation such as this, how could the distribution take place by the 5th year following the death and what is the penalty? This beneficiary would prefer to take the zero valued IRA distribution and pay capital gain income rather than ordinary income as with an IRA distribution.

It sounds like what should have happened is that the stock should have been transferred in kind* to the bene, and it sounds like that didn't happen. If you could get the custodian to do that now, you'd be back in the position that you should have been in and everything would be fine.

But I doubt that the custodian will be willing to make a distribution without issuing a 1099-R for ordinary income. I guess you can point out to them that they should have processed the RMD years ago but I don't know if that will help.

*But I'm not sure that you can do an in-kind distribution to satisfy RMDs.

Does the IRA custodian really require the 5-year distribution rule? If so, I think they were derelict in not liquidating the account after 5 years.

IRS rules also allow yearly distributions over the beneficiary's life expectancy. If the the account had zero value all these years, the RMD's would have been $0. The first non-zero RMD would be in the year after the stock regains some value.

If you read the custodial agreement you will discover that the custodian/trustee is not liable for failure to take required distributions and act only upon the instruction of the owner or bene who is responsible for determining MRDs.

That's a good way to look at it. If the stock was in the account, then it sounds like that's the result. Simply start making RMDs based on the account value.