If you’re reading this article to try to figure out what to do with inheritance money, let me start by saying two things:
- I’m sorry for your loss. Whether you were close to the person who passed away or not, losing someone is a difficult journey.
- Good job seeking help. You’re starting this journey on the right foot.
There is a strong temptation when you get a sudden influx of inheritance money to go buy something big that you’ve always wanted but could never afford. Maybe it’s a new car, maybe it’s a European cruise – whatever it is, the temptation is real and human.
But if you’re reading this article, chances are you understand that that may not be the best decision – and you’re right! That doesn’t mean that you can’t do anything fun with your inheritance funds, but it can have a much bigger impact on your life if you follow a few steps first.
In this article, I will share some basic steps on what to do after receiving an inheritance.
But first, let’s do a quick primer on some important terms you should know.
Understanding the roles
If you’re inheriting wealth for the first time, you may be a bit confused. There are three terms you probably need to know:
- An executor is the person who makes sure that the intentions of the deceased are carried out according to their will.
- A trust is a legal arrangement where someone’s assets are managed and nominally owned by someone else for the purposes of estate planning.
- A trustee is the person who administers the property and/or assets of a trust according to the wishes of the person who created the trust. There may or may not be a trust involved in your situation.
- A beneficiary is anyone who is left something in the will. Whether you received jewelry, money, stocks, or precious heirlooms, you are a beneficiary.
Related: Beneficiary of a Trust? What You Need to Know
What Should You Do with Your Inheritance Money?
Receiving a sudden windfall can be exciting, but it’s important that you keep a level head and consider your next steps carefully.
3 reasons you should talk to a financial professional first
Of course, an advisor would tell you to talk to an advisor first, right? Yes and no. There are three important reasons this should be your first step when you receive an inheritance:
Reason #1: Taxes
If you received your inheritance, there can be tax consequences depending on what you received. In the case of stocks and bonds, many accounts get a step-up in basis on the date of death. In addition, the presence of a trust may cause taxes owed when distributed to beneficiaries because it does not get a step-up in basis. It is usually caused by a bypass or marital trust (important to understand the trusts). A conversation with the attorney/advisor/tax accountant could help you steer clear of a plus-sized tax bill.
In addition, if you are retired and have upcoming required minimum distributions (RMDs), your inheritance could impact your tax liability.
(If this is you and you need an advisor ASAP, click here to schedule a call. We can help you figure out if there is anything you need to do right away.)
Reason #2: Emotions
Inheritance funds can carry a lot of emotional weight. Spending the inheritance money could bring up feelings of disapproval or anxiety, freezing you into inaction.
Many advisors can help you sort through some of your feelings. Depending on your relationship to the deceased you can build a plan that honors your loved one and/or has a positive impact on you and your family – which brings us to reason number three.
Reason #3: Planning
Inheritance funds can have the power to change your life circumstances for the long term, but they require some careful planning.
When you receive a significant windfall of cash, you may feel the temptation to buy that new car you’ve always wanted or pay off your mortgage or pay for your children’s/grandchildren’s college tuition or something else.
If you spend a big portion of the money without a plan, you could be preventing yourself from being able to make a bigger change in your financial health.
To be clear, I’m not saying you can’t buy the house or pay off your mortgage; I’m just saying you should get a plan in place first.
If you’ve always handled your own finances, we would highly recommend seeking some professional help with taxes, money, or legal issues, if only for the first year – someone who can help you keep more of your inheritance, avoid any unnecessary tax penalties, and build a plan to maximize the impact of the money you received.
If you’re determined to go the DIY route, you should at least read the book Sudden Money by Susan Bradley and Mary Martin. They do an excellent job of laying out practical steps. You can also find podcasters and others, but do your due diligence as literally anyone can start a podcast or YouTube channel.
Assemble your team
If your inheritance is in the form of an IRA, Roth IRA or investments, you’re going to want help navigating the complexities that come with that.
Related: 8 Ways Working with a Financial Advisor can Help Improve Your Life
Your financial team may look different depending on your needs, but you’ll want to look into getting:
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- A financial advisor acts as the “quarterback” of your financial team, using their holistic view of your financial life and goals to coordinate all of the different professionals together. Plus, they will help you build and stick to a plan for how to maximize the way you use the inheritance funds.
- An accountant will help you manage any tax issues that may arise.
- An estate planning attorney can help you with the legal part if you inherit wealth from someone. If the inheritance you received involved someone like this, that could be a good place to start. They can also help you update your own will and get other end-of-life issues taken care of for your family so you can leave a legacy you can be proud of.
Related: What Will Your Financial Legacy Be?
- An attorney. While you may not need an attorney on retainer, establishing a relationship with one can help you be prepared for any legal issues that arise regarding your inheritance.
If you inherited investments, decide what to do with those
When we work with clients who inherited investments, we could take one of two courses of action, we could either:
- Keep the money invested. If you don’t need/want the money right away, you may prefer to leave it invested. If this is the case, we will make sure the investments are balanced to match your risk tolerance and goals.
- Sell the investments. If you want to use the money sooner rather than later, then we’ll find the most tax-efficient way to sell the investments and then put it somewhere (typically a money market account) while we figure out the next steps.
Fill up your emergency fund and pay off consumer debt
No matter what you decide to do with your inheritance money, you want to be sure to at least fill up your emergency fund. If your emergency fund has three months’ worth of expenses or less, take this opportunity to pump it up to six months, or even twelve. Paying off consumer debt like credit cards can go a long way in setting you up for success.
Make a plan
Take some time to think about how the inheritance funds could change your life in the big picture. Could you:
- Eliminate all of your debt?
- Catch up on your retirement savings?
- Start a 529 plan for your grandchildren’s college education?
- Start a scholarship at your alma mater?
- Donate to charitable causes you care about?
- Plan a family get-together
With the right plan in place, you could possibly do all of that and more. But if you try to do it all at once, you’re going to either (a) run out of money or (b) pay way more in taxes than you should.
Keep it to yourself
Inheriting money can be exciting, and you may find that you want to spread the good news to anyone who will listen. We highly recommend keeping it between yourself and your spouse or another trusted loved one (and your team of professionals, of course).
Unfortunately, when someone inherits large sums of money, people start coming out of the woodwork asking for handouts. The best thing for you to do is keep the news to yourself – at least until you have a plan in place.
Whatever you do, plan first, then act
For more information on building a plan that will set you up for success, click here to download our ebook, “7 Rules to Retirement Planning Success.”
