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You’ve Received an Inheritance. Now What?

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A big inheritance
Receiving an inheritance means you should take a breath and do some planning before you do some spending.

Inheriting money puts a whole new spin on your outlook on money, says The Kansas City Star in its article “Coming into some money? Be wise with it.”

Should you pay off your debts first, if you have any? Maybe. Make a list of your debt balances and their interest rates. If the interest rate is high, pay it off. If it’s low, you may be better off investing the funds.

Next, check on your emergency fund. If you don’t have three to six months’ worth of living expenses on hand, use your inheritance to ramp up that fund. Yes, you can use credit cards sometimes. However, having at least two months’ worth of living expenses in cash is smart.

The third step is to contribute the most you can to a health savings account (HSA), if your employer does not contribute to it and if you have a qualifying health plan. That’s $3,500 if you are single, $7,000 for families, and you can add another $1,000 if you are over 55. This gets you a nice tax deduction and withdrawals are tax-free as long as they are used for qualified medical expenses.

Depending upon the size of the inheritance, if you’re still working it might be time to “tax-shift” your portfolio.

Let’s say you regularly contribute $3,000 to a 401(k). If you can, increase that amount by $22,000, to the maximum, if you’re 50 and older. Since your paycheck decreases, so does your tax. If your tax rate is currently 22%, you’ll only need to add $17,160 from your inherited account to reach the same spendable dollars. The tax-deferred account in your portfolio will grow faster, while the taxable account shrinks.

Think about whether to commingle funds with your significant other or not. Let’s say you and your spouse have a retirement portfolio. You both can spend it now, maybe on your house. The inheritance may also help you to retire earlier. If you save the inheritance, keep it in a separate account with only your name on it so it remains your separate asset in case of a divorce. Most states will consider this money a non-marital asset, and not subject to division between divorcing parties.

Consider using the inheritance as a way to avoiding tapping into retirement accounts. Withdrawals from IRAs are taxable. If you’re not worried about commingling funds or investment gains, then use the inherited account to minimize the tax losses from retirement accounts.

Most people don’t have enough savings put aside that will allow them to maintain the same amount of spending during retirement as they did while working. Skip the spending spree that often follows an inheritance and enjoy the money over an extended period of time.

Your new financial position may require more tax planning and more legacy planning. Receiving an inheritance is one of the times when reviewing your estate plan becomes a wise move.

Reference: The Kansas City Star (June 27, 2019) “Coming into some money? Be wise with it”

Other articles that may interest you:

How Do Transfer on Death Accounts Work?

How Can a Collector Leave a Legacy?