The Do’s and Don’ts of Inheriting Money

The Do’s and Don’ts of Inheriting Money

March 05, 2024

So you’ve received an inheritance. Congratulations! This type of “found” money is something many people only dream of.

Even if people have a good handle on how to manage their regular income, many aren’t sure how to manage one-time windfalls such as inheritances, monetary gifts, lottery wins or bonuses at work that arrive in a lump sum.

The so-called “great wealth transfer” is already under way, with over $68 trillion set to be passed down by baby boomers to their children. Yet 58 percent of adults who expect to inherit money do not feel comfortable handling the new wealth, according to a study by New York Life.

Here are some do’s and don’ts for handling an inheritance — first, three do’s.

Do’s for Inheriting Money

Here are three actions we encourage you to take once you receive an inheritance.

1. Do deposit the money into an FDIC-insured account

As soon as you receive a lump sum, deposit the money into an FDIC-insured bank account. This will keep your money safe while you’re deciding what to do with the windfall for the long term. Keep in mind, though, that the maximum coverage for each FDIC-insured account is $250,000. If you inherit more than this, you may want to consider a few strategies for increasing your coverage. Your financial advisor can guide you on appropriate ways to manage this money.

2. Do work with a financial advisor

You want to make the most of the money you receive. You have a much better chance of optimizing your outcome if you work with your financial advisor than if you attempt to manage your inheritance alone.

Your financial advisory team can help you manage any potential tax implications of the financial moves yiou make. Your team also can help you prioritize your short-, medium- and long-term objectives for the money.

3. Do consider using a portion of the money to honor the decedent

Chances are, if you’ve received an inheritance, it’s from someone who cared about you a lot, and you probably cared about him or her as well.

Doing something special to honor that person's life not only will help you honor his or legacy; it also can help you in the grieving process. There are many ways you can use a portion of the inheritance to honor your benefactor. You could name something (such as a park bench) for him or her, plant a tree in the person’s honor or buy a boat or something else and name it after the person. Or you could do something special to commemorate his or her life, such as going to visit a long-lost friend of the decedent and sharing memories.

Don’ts for Inheriting Money

Now, here are four actions to avoid if you’re receiving an inheritance — four don’ts.

1. Don’t do anything until you know the actual amount you will receive

People who receive inheritances are often disappointed when they learn that they will receive less than they anticipated.

Financial aspects of the decedent’s financial situation can reduce the amount you receive. These can include back taxes, debt, lawsuits and secret wills. In some cases, benefactors accidentally leave ex-spouses as the beneficiaries on their 401(k) retirement accounts.

It’s also important to understand that not all inherited money is created equal. Different types of assets have different tax implications, depending on what you do when you receive them.

For example, if you receive cash through a parent’s will, you typically won't owe any income taxes on that inherited money. You also will not pay income tax on inherited securities like publicly traded stocks and bonds or on any interests in private businesses, limited liability companies or corporations — until you sell them. For inherited securities and real estate, there's an added tax benefit of receiving a step up in tax basis. This means both are updated to the fair market value upon your parent's death date or six months after that date.

Regarding insurance policies and annuities, you will owe no income taxes on inherited life insurance policies if you elect to take the proceeds as a lump sum. If you choose to take payments in installments, the interest that accrues on the balance of the account is taxable.

Also, no tax is due on money inherited through an annuity that provides a death benefit. Payments you receive through an annuity with a survivorship right — which means you inherit the right to receive the annuity's regular payments — are subject to income tax. Both the death benefit and survivorship right benefits are set up when the annuity is purchased.

These are just a few examples of the different forms of financial windfalls people might receive. Work with your financial advisor to understand and manage your inheritance. It’s important to go through that process to discover the actual amount of money you are receiving.

It’s human nature to make financial plans today based on what seems like a certainty tomorrow. Resist this tendency!

2. Don't quit your job immediately

Upon hearing that you are to receive an inheritance, it can be tempting to quit your job immediately. We encourage you to wait until you know how much you’re going to receive and when.

For example, someone who’s 19 years old might find out that his grandmother passed away and left her estate to him. But what he might not realize until he’s met with the estate attorney is that she stipulated that he could receive that money only once he turns 30 years old or completes a bachelor’s degree, for example.

3. Don’t spend it all

Depending upon several factors, including your life expectancy, your spending habits and how you invest, it can take millions of dollars to secure the income you need to sustain your desired lifestyle for the rest of your life.

Splurge on yourself a little, but make a broader long-term plan a priority. We encourage you to meet with your financial advisor to build a financial plan that will guide your financial future.

4. Don't withdraw large sums from inherited IRAs

Let’s say you inherit an individual retirement account (IRA). Although you may be able to avoid the IRS-imposed 10 percent early-withdrawal penalty on the IRA, you might still owe income tax when you withdraw money from it. And if the withdrawal is large enough, it could put you into a higher tax bracket. Again, consult your financial advisor before doing anything else.

________

Just as you strive to be a good steward of your regular income with an eye toward living your best possible life in the future, it’s wise to be a good steward of any lump sums of money you receive. These windfalls can change your life for the better, especially if you partner with your financial advisory team to ensure you manage the tax implications and optimize the way you invest that money.



Any opinions are those of the author and not necessarily those of Raymond James. This material is being provided for informational purposes only and is not a complete description, nor is it a recommendation. There is no guarantee that these statements, opinions or forecasts provided herein will prove to be correct.

Investing involves risk and you may incur a profit or a loss regardless of strategy selected. No investment strategy can guarantee your objectives will be met. Past performance is no guarantee of future results. Prior to making an investment decision, please consult with your financial advisor about your individual situation.

Raymond James and its advisors do not offer tax or legal advice. You should discuss any tax or legal matters with the appropriate professional.

Investment products are: Not deposits. Not FDIC Insured. Not guaranteed by the financial institution. Subject to risk. May Lose Value.