What Should You Do If You Inherit Money?

Inheriting money can bring a complex mix of emotions, from grief to a sense of financial opportunity. Navigating this significant event requires careful consideration and a structured approach to ensure the inheritance serves your long-term well-being. This guide provides a framework for understanding and managing inherited wealth, helping you make informed decisions that align with your financial goals.

Understanding the Inheritance Received

An inheritance can include liquid assets like cash, or more complex holdings such as stocks, bonds, real estate, or personal property. These assets vary widely. Retirement accounts (IRAs, 401(k)s) and life insurance proceeds are also common inherited assets. The transfer method depends on how the original owner structured their estate.

Assets with designated beneficiaries, like life insurance and retirement accounts, typically transfer directly to the named individual without probate. This direct transfer often provides quicker access to funds. Assets without specific beneficiary designations, or those held solely in the deceased’s name, generally pass through probate court. This legal process validates the will, settles debts, and distributes assets according to the will or state law. Probate can be a lengthy process.

Gaining control over inherited assets involves different steps. Receiving cash or life insurance proceeds might involve providing a death certificate to the financial institution. Taking possession of real estate or business interests often requires working through probate court or with an estate attorney to transfer ownership.

Addressing Immediate Financial Needs

Once inherited funds are accessible, establishing a temporary “holding” plan helps prevent impulsive spending. This strategy allows for reflection and research, ensuring deliberate decisions. Keep funds in a secure, accessible account, such as a high-yield savings account, while assessing your financial situation.

Establishing or bolstering an emergency fund is a key step for financial stability. Experts recommend setting aside cash to cover three to six months of essential living expenses. This financial cushion provides a buffer against unforeseen circumstances, reducing the likelihood of incurring debt.

Paying off high-interest debt is another immediate action. Debts like credit card balances and payday loans carry high interest rates. Paying down these debts improves financial health by reducing interest accrual and freeing up future cash flow. Eliminating these obligations provides a strong foundation for long-term wealth building.

Navigating Tax Implications

Inheriting money involves various tax considerations. The federal estate tax is levied on the deceased person’s estate before assets are distributed. This tax affects only a small number of estates due to a high exemption threshold.

For 2025, the federal estate tax exemption is $13.99 million per individual. Only estates valued above this amount are subject to the tax. The vast majority of inherited estates will not incur federal estate tax.

Some states impose their own estate taxes or inheritance taxes. Estate taxes are paid by the deceased person’s estate, while inheritance taxes are paid by the beneficiary. A limited number of states levy an inheritance tax, often with exemptions for close relatives.

Income tax implications arise with inherited retirement accounts (traditional IRAs or 401(k)s). Distributions from these accounts are taxed as ordinary income to the beneficiary. For most non-spouse beneficiaries, the “10-year rule” applies, requiring the entire account balance to be distributed by the tenth year following the owner’s death. This allows for tax-deferred growth for a period.

The “step-up in basis” rule applies to inherited non-retirement assets like real estate or stocks. This rule adjusts the asset’s cost basis to its fair market value on the date of the original owner’s death. This adjustment can reduce or eliminate capital gains tax liability if the asset is sold shortly after inheritance, as appreciation during the decedent’s lifetime is untaxed. For example, if a property worth $500,000 at inheritance had a previous basis of $100,000, the new basis becomes $500,000. Only appreciation beyond that amount would be subject to capital gains tax upon a future sale.

Strategic Financial Planning

After addressing immediate financial needs and understanding tax implications, integrate the inheritance into a long-term financial plan. This allocation should align with your goals and risk tolerance, ensuring the inherited wealth contributes to your future security.

Investing for long-term growth is a common strategy for inherited funds, especially for goals like retirement. This involves creating a diversified investment portfolio tailored to your risk profile. A financial advisor can help construct a suitable portfolio designed to grow wealth while managing market fluctuations.

Saving for specific financial goals is another step. This could include a down payment for a home, educational expenses, or boosting retirement savings. Integrating the inheritance into these objectives can accelerate progress. Contributing a lump sum to a retirement account, if eligible, can benefit from compound growth.

Making large purchases, such as a new home or business investment, can be appropriate if they align with your financial objectives and are part of a well-considered plan. Distinguish between impulsive desires and strategic acquisitions that enhance long-term financial well-being. A comprehensive financial plan incorporates inherited funds into your existing objectives, providing a roadmap for achieving your financial aspirations.