How to invest an inheritance

There are a number of ways in which you may find yourself in possession of an inheritance. You might be bequeathed assets through a will, intestate laws may favor you after someone dies without a will, you may be the beneficiary of a financial account or an insurance policy, or you might find yourself with a boon thanks to a trust. No matter how you find your funds, there are some things to know before you get down to making your newfound wealth work for you.

How does inheritance work?

There’s more to inheritance than just coming into money. Sometimes you will need to wait until you actually possess your inheritance, and once you do, you’ll need to decide what you want to do with it next. Here are some common terms you might encounter if you are bequeathed any assets.

Beneficiary

This term refers to the individual who inherits the funds or property because of a financial account, trust, or will.

Executor

The personal representative is whoever is named in the will and/or found themselves appointed by a probate court as the person responsible for realizing the desires of the deceased. This entails clouding out accounts, distributing assets in the manner instructed by the departed, managing paperwork, paying creditors, etc.

Grantor

This is the person who set up the trust in the first place.

Heir

If there’s no valid will, then the heir is the one who inherits the assets. This term is often used in reference to the individual who receives assets because of a will, but the correct term to use in that case is actually “beneficiary.”

Real vs. personal property

Real property means real estate, while personal property means anything else that one may inherit that isn’t real estate.

How long does it take to settle an estate?

There’s no simple answer to this question given all the factors. Is there a will? Does the will account for several different people? Is the executor efficient or taking their time?

What are the types of inheritances?

You can inherit a cornucopia of assets: cash, retirement accounts, houses, and other properties, to name a few. The action you take upon receiving the inheritance will depend on which of these applies to you.

What can I do with a cash inheritance?

If you receive cash, you’re probably not going to pay any taxes on it. Why? Because as of 2019 you can get as much as $11.8 million ($22.36 million for a married couple) and not have to pay gift or estate taxes.

Give some of it away

Feeling generous? You might decide to donate upwards of 10% of your inheritance. You’ll feel good, help out a cause you believe in, and you can write it off your taxes.

Pay off debts

Debt is just weighing you down! It can adversely affect your credit score, it opens you up to fees, and if the interest is high enough your debt may just be a money suck. So, pay it off and cast off the albatross that hangs on your neck!

Build an emergency fund

It’s suggested that your emergency fund should be three to five months’ worth of salary or expenses. Keep it in a money market account or put it into a Roth IRA so that it grows in the event that you never need to use it (since contributions made to a Roth IRA are taxed, you can make withdrawals without facing significant penalties). By keeping your emergency fund in something other than a savings account, your cash can grow. This is helpful when it comes to countering the effects of inflation over time.

Pay down your mortgage

If you pay off your mortgage faster you save on interest, get more equity, and are on track to “free” housing. Plus, payments toward interest are tax-deductible.

Put it toward a college fund

When it comes to saving for your child’s college education, an inheritance is a great way to catch up or exceed expectations. So, consider putting some of our money into a 529 Plan, Education Savings Account (ESA), and a UTMA/UGMA (Uniform Transfer/Gift to Minors Act).

What if I inherit a house?

There’s a chance you’ll inherit a house. If that happens you may be too excited to even imagine what you can do with it. Luckily, these options have already been mapped out for you.

Sell

If you inherit a house and sell it you don’t pay capital gains taxes on 100% of the profit. Instead, you pay taxes on the difference between what the house was worth at the time that you inherited it and the amount you sold it for. So, if the house was worth $175,000 when you got it and you sold it for $200,000, you only pay taxes on the $25,000. The value of the home when you inherit it is known as its stepped-up tax basis.

Rent

Renting a property may provide a consistent source of income, but not without trade-offs. Renting a home you own can involve complex taxes, time and cost of upkeep, and the decision as to whether or not you’re going to be the one personally maintaining the property.

Stay

You may decide to live in the house, which comes with all the pros and cons of homeownership. Think of your home as a purchase rather than an investment, and then think about if you actually want to be the owner of the inherited home or if you’re being cajoled by the promise of free housing after the mortgage is paid off (if it isn’t already). Property taxes and upkeep are things you will need to keep in mind in making your decision. Remember, there’s plenty of reasons to rent, which includes being able to live in a place you may otherwise be unable to afford and not having to worry about upkeep.

What about taxes?

You probably won’t have to worry about paying taxes on your inheritance. However, if you inherit something that generates an income, then you’re likely going to have to pay capital gains taxes on that income. Since taxes are complicated, you should consult with a qualified tax professional when you make decisions about your inheritance.

Estate tax

The federal estate tax only applies to inheritance greater than $11.18 million for individuals and $22.36 million for married couples. But you don’t have to think about that because it’s the estate and not you that ends up getting taxed, and that occurs before you even receive the estate.

Inheritance tax

Inheritance tax is paid after you get the assets. There’s no federal inheritance tax, but six states to apply taxes to inheritance. Most beneficiaries, however, including children, grandchildren, husbands, and wives, don’t pay inheritance taxes.

How do I invest an inheritance?

If you’re even thinking about investing your inheritance, the first place to look is any retirement fund that comes with an employee match from your company. Max that out because nothing can compete with free money. Next, you might decide to pay off any high-interest debt that is lingering in your life. Once those are taken care of, you have a few options.

Growth stock mutual funds

With or without an investment professional’s help, you can invest in four different types of mutual funds: aggressive growth, growth, growth and income, and international. Remember that having a diverse portfolio will make you a more resilient investor since all your eggs aren’t in one basket.

Real estate purchased with cash

You might consider putting your inheritance toward a rental property. For many investors, this serves as a reliable source of income and may appreciate in value over time. Depending on the market, real estate investments tend to be less volatile in the short term relative to the stock market, and you’ll have an asset you can use to back-up a loan if you need to.

That said, some experts would advise against buying a real estate property if you cannot buy it outright. You might also consider the importance of liquidity to you. Liquidity refers to the ease with which an asset can be converted to cash without losing value. Real estate tends to have low liquidity since selling a house can be quite hard.

Bottom line

Inheritance can be a gift or a burden. It will ultimately depend on the circumstances around the dispersal of assets and what you go on to do with those assets. Luckily, you can always plan ahead (before the death, and afterward) to make the most of your situation.

Pam Velazquez is Senior Marketing Manager at Public.com.

The above content is provided is paid for by Public and is for general informational purposes only. It is not intended to constitute investment advice or any other kind of professional advice and should not be relied upon as such. Before taking action based on any such information, we encourage you to consult with the appropriate professionals. We do not endorse any third parties referenced within the article. Market and economic views are subject to change without notice and may be untimely when presented here. Do not infer or assume that any securities, sectors or markets described in this article were or will be profitable. Past performance is no guarantee of future results. There is a possibility of loss. Historical or hypothetical performance results are presented for illustrative purposes only.

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