I Just Received an Inheritance, Now What?
Written by: Vincenzo Testa, CPA, CFP®
When receiving an inheritance, one can find themselves feeling overwhelmed. Suddenly, you find yourself with a significant sum of money or assets that can potentially impact your financial future. However, it is essential to approach these situations with careful consideration and thoughtful planning. Depending on what assets are inherited, the situation can be quite complex. It is imperative to understand the full picture. It may be in your best interest to work with a tax professional, financial planner and estate attorney to ensure a smooth process.
This article will discuss:
- What Should I Do First?
- Financial Planning Tips for Receiving an Inheritance
- Tax Consequences of Different Inherited Assets
First Things First
When dealing with a significant inheritance, seeking professional financial advice is highly recommended. A financial advisor can help you assess your current financial situation, create a comprehensive plan, and make informed investment decisions. They will consider factors such as your risk tolerance, time horizon, and financial goals to design a personalized strategy tailored to your needs.
Before making any major financial decisions, it is crucial to take a step back and reflect on your goals and priorities. Consider your short-term and long-term financial objectives, such as paying off debts, saving for retirement, or funding education.
Financial Planning for Inheritances
Establishing an emergency fund should be a priority when managing an inheritance. Set aside an amount equivalent to three to six months' worth of living expenses in a liquid, accessible account. This fund acts as a safety net, providing financial security in the event of unforeseen circumstances such as job loss, medical emergencies, or unexpected expenses.
If you have outstanding debts with high-interest rates, consider using a portion of your inheritance to pay them off. Start with high-interest debts like credit card balances or personal loans. Eliminating these debts can free up your cash flow and provide a fresh start toward building a stronger financial foundation.
Diversification is key to managing risk and maximizing returns. Consider a mix of stocks, bonds, real estate, and other investment vehicles based on your risk tolerance and time horizon. A diversified portfolio can help protect your wealth against market volatility while allowing it to grow steadily.
Inheriting certain assets, such as stocks, real estate, or retirement accounts, may trigger income tax implications. When you sell an inherited asset, such as stocks or real estate, you may be subject to capital gains tax on any increase in value since the original owner acquired it. However, in some cases, the tax basis of the asset may be "stepped-up" to its fair market value at the time of the owner's death, reducing the potential capital gains tax liability.
Inheriting an Individual Retirement Account (IRA) or other retirement accounts can have specific tax implications. The rules governing inherited retirement accounts can be complex and vary depending on your relationship to the deceased, the age of the original account holder, and whether the account is a traditional or Roth IRA. It is essential to understand the required minimum distribution (RMD) rules and potential tax consequences associated with inherited retirement accounts.
Estate taxes are imposed on the total value of an estate, and they may apply if the estate exceeds a certain threshold. Be aware of the estate tax exemptions and thresholds in your jurisdiction. In some states, smaller estates may be exempt from estate tax, while larger estates may face progressive tax rates.
Inheriting assets is a significant event that can have both emotional and financial implications. It is a testament to the love and legacy of the person who has passed away, and it is important to approach the situation with sensitivity and careful consideration.
Receiving inherited assets is a unique opportunity that carries both blessings and responsibilities. By approaching it with thoughtfulness, knowledge, and a clear understanding of your own goals, you can honor the legacy of your loved ones while creating a bright and secure future for yourself and your family.
If you have questions about this topic please contact our team to schedule a meeting.
Bouchey Financial Group has offices in Saratoga Springs and Historic Downtown Troy, NY as well as Boston, Massachusetts.