Envision this: If you want to make the most of a big inheritance by investing, it’s important to take your time, understand your tax obligations, and to evaluate the likely return on your investments.
Whether you anticipate an inheritance or if you’re about to get one, bear in mind that getting an inheritance comes at an emotional time. Never make an important decision without due diligence until you’re able.
Inherited IRAs mean you must deal with complications. Inherited securities require deciding whether to trade them or keep them. And pardon the pun, you must keep your decide to spend any of the money in check.
So keep in mind these best strategies:
1. Be deliberate – go gently
Don’t make any major decisions right away. Not to be too graphic but you’re likely to be in an emotional quagmire or snake pit. What initially might seem important can wait until you have full peace-of-mind.
Be sure to only make practical decisions and be certain you can make determinations based facts not emotional feelings.
For instance, your deceased father might have loved owning stock from the company for which he worked for three decades. But you don’t have to be loyal to the company if you develop a plan for the assets that’s better for portfolio goals.
You can be comfortable in knowing that the person left the assets for you to use in your best interest.
2. Evaluate your inheritance and how it might be best used
You’ll need to fully understand the type of assets you’re inheriting. If you’re inheriting cash, then you should decide whether to wisely spend or invest it.
For another type of asset, you need to figure out if it’s best to keep or sell. Whether you inherit securities, stocks, or a mutual fund, you’ll want to evaluate whether to invest the money while especially considering the tax implications if you decide to sell your inherited assets.
With the cost basis determined by the death date, the amount taxes owed are contingent on the appreciation of the assets after the date of death.
Consider whether the inherited assets complement your financial plan. For example, depending on your portfolio goals, tax benefits from inherited securities aren’t necessarily advantageous.
3. Calculate the effect of taxes
Whether you’re inheriting assets in property or in money, use due diligence. An IRA or a 401 (k) can be transferred and not taxed if you stay with approved tax vehicles.
For a taxable or non-retirement account, note that the date of death is important to determine the tax on the value of the account.
You’ll have to pay capital gains tax on any appreciation of the asset’s value from the time of death to the time you sell.
To qualify for long-term capital gains consideration, ordinarily, assets must be kept for 12 months. But inheritances can qualify for it at even at a zero-percent tax rate whether waiting for a full year or for a shorter period.
Again, remember the valuation date is important to consider before calculating your taxes.
4. IRA accounts
IRA accounts can be complicated, so you probably want to see a tax advisor, and a lot can depend whether you’re a spouse or non-spouse.
Generally speaking:
In inheriting IRA accounts, you’ll have to pay taxes on any amounts that haven’t been previously taxed.
Beware: Traditional IRAs from investment earnings and tax-deductible contributions might be taxed on 100 percent of the accounts’ balances.
So, if you don’t need to spend the money in the short-term future, you’d be better off keeping the accounts as-is.
Spouses can move the money into their own IRAs. Children or non-spouses can move the money into an inherited IRA that they establish.
But consider seeing your tax advisor before you do anything.
5. 401(k)-type company retirement plans
Just as the situation with IRAs, the rules are contingent whether you’re a spouse or non-spouse.
If you’re a spouse, you can leave the funds as-is or transfer the money to your own IRA. It’s simplest long-term to leave the money be.
If you’re a non-spouse, you can move the money into an inherited IRA. You’ll have to make minimum distributions based on your life expectancy.
In either situation, you can expect to pay a big tax if you cash in the 401(k).
6. Re-visit your fantasy to spend vis-à-vis your long-term objectives
Don’t take your inheritance for granted. A windfall is not to be spent without caution.
Yes, perhaps you don’t have a lot of money and your car is falling apart. You might have a financial need to buy a car.
But do you really need to take a Hawaiian vacation or to build a swimming pool?
Probably not if the spending clash with your long-term financial objectives. You’re more like to need the money for your children’s college fund or for your retirement fund.
7. Determine your best return on investment (ROI)
Before you decide to invest the assets, select the best avenue that gives you the best ROI.
If you have large debts, such as a student loan or credit cards with big balances and/or with high interest rates, pay them off first. Debt is a killer, so get out of debt first.
In this way, you’ll get the best-possible immediate ROI. You’ll never find an investment opportunity that yields more money back to you than what you’d pay in interest for a student loan or credit cards.
Once that’s handled, if you’re relatively young, consider investing in equities; preferably a stock market. Choose wisely stay with it long-term like Warren Buffett would.
You can also get a tax breather by going with an IRA. Just don’t exceed the annual contribution limit.
If you’re older, it’s best to be more conservative than you would if you were younger.
8. Get expertise
Particularly, if you’re inheriting a lot of money or upscale assets, seek professional guidance. If you’re lacking knowledge about taxes, look for a good CPA.
For advice on taxes and investing, seek a proven financial planner.
It’s better to pay a fee for a financial planner than to sign up with a planner who gets a commission on products the person sells. You’ll get more objective counsel.
From the Coach’s Corner, here are related strategies:
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Inheritance taxes are so high that the happiest mourner at a rich man’s funeral is usually Uncle Sam.
-Olin Miller
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