By Jeff Walters

Debuting on The New York Times’ best-seller list, The Nest chronicles the lives of four siblings as they approach the date when they’re supposed to receive a large inheritance. The tale by Cynthia D'Aprix Sweeney may be fiction but, as we’ve seen with clients facing planned or unexpected inheritances, the associated emotion is real. To help anyone currently in or facing the inheritance process, here are several questions to ask.

1. What type of property have I received and what are the tax implications?

An inheritance can take the form of any type of property: cash, savings accounts, stocks, bonds, retirement plans or collectibles. You may even receive an income stream such as royalties or a pension. It’s important to determine the tax implications of the property and type of ownership. This is a good time to talk to a CPA who specializes in this area. The following are explanations of the tax implications of different types of properties:

Cost basis (step-up) – Most property will have a step-up in cost basis, which means if you sell the investment later, the tax you owe will be based on any gains/losses starting on the day of death. This could be a large advantage if the investment has appreciated significantly while the decedent owned it.

Estate taxes (Federal and State) – The current Federal estate tax exemption amount is $5.49 million in 2017 per person ($10.98 million for a married couple). The Washington State estate tax exemption amount is $2.129 million per person in 2017.  Spouses can pass an unlimited amount to each other.

Income taxes from dividends, interest, capital gains – For Non-Retirement Plans, there’s usually no income tax due on the inheritance itself. If the funds are currently generating any taxable income, you will be responsible to pay these taxes going forward. Retirement Plans – Depending on the type of retirement plan, you have a few options. A spouse that inherits an IRA will have the option of either taking a lump sum (generally not recommended), transferring the funds to their own IRA or opening an Inherited IRA. A non-spouse beneficiary won’t have the option of transferring the funds to their own IRA, but can still use an Inherited IRA. Generally, these IRAs will need to be distributed within five years, or can be stretched out over the beneficiary’s life expectancy. It’s important to work with your CPA and financial planner to make sure you’re implementing this strategy correctly.

2. What should I do with the money?

One important piece of advice that we counsel clients to follow when they receive an inheritance (or any other large windfall such as a gift or lottery winnings) is to go slow. In general, it’s OK to leave things alone while you go through the process of adjusting and thinking about your financial goals. This is a good time to start or update your financial plan. The financial planning process will help you think about your values and turn these into specific financial goals. This is the best way to make sure that you’re using these funds in a way that truly lines up with your values.

Once your financial plan is updated, you can implement an investment strategy that makes sense given your objectives (what the money is for), timeframe (when you need the money), and tolerance for market risk.

3. What else should I consider?

Many people don’t think beyond the influx and associated taxes when they receive an inheritance. We think it’s also a good time to update your critical documents and consider charitable giving.

Update your critical documents

Make sure the following documents are in place and up-to-date, reflecting your post-inheritance financial status and goals:

• Durable Power of Attorney, which designates the person assigned to make financial decisions on your behalf in the event of your incapacity.
• Healthcare Power of Attorney, which designates the person empowered to make healthcare decisions on your behalf should you become incapacitated.
• Wills and Trusts, which ensures property is passed according to an individual's wishes. Wills should bequeath property in the same way other documents do, such as your retirement account or insurance policy. The will should also include guardianship designations for your minor children.
• Beneficiary designations identify who will receive your assets. Some assets, like retirement accounts, can pass along after death without being included in a will. After an inheritance, it’s important to update the beneficiaries on the new accounts, particularly IRAs.
• Letter of Intent, which outlines your wishes for your assets.

Consider charitable giving

If you are charitably inclined, the year in which you receive an inheritance could be a good time to consider making an extra contribution to an organization that you favor, or to think about your giving plan going forward. Depending on your individual situation there may be tax benefits to giving during the inheritance year, especially if your tax bracket is higher due to income from the inheritance.  We recommend that you discuss these strategies with a qualified tax advisor before making any decisions.

When considering how, when and where to give, it’s important to think about which giving option fits best with your goals, whether direct or indirect gifts. While direct gifts of cash or stock are the most common type of contribution, sometimes it makes more sense to give indirectly through donor-advised funds or foundations.

Receiving an inheritance can be a life changing event. There are several issues to think about including the tax implications, investment strategy, and your personal financial goals and objectives. Need help?  Talk to us about creating a financial plan for your inheritance.