Tips to Help US Residents in Protecting Inheritance from Taxes
Whether one inherits cash, investments, or property, the inheritances are not considered income for federal tax purposes. However, any subsequent earnings on the inherited assets are taxable unless it comes from a tax-free source. While filing a tax return, one should not include in income the interest income from inherited cash in a bank account. In addition, dividends on inherited stocks or mutual funds should not be included as an income entry while filing tax.
Generally, it is imperative to note that any gains when you sell inherited investments or property are taxable. Nevertheless, a taxpayer can usually also claim losses on these sales. So, how can one prevent inheritance from taxes in the US? Below are tips you can follow.
Consider an alternate valuation date
Typically, the source of property in a decedent’s estate is the fair market value of the property on the date of death. In some cases, the executor may choose an alternate valuation date, which is six months after the date of death. Alternate valuation is only available if it can decrease both the gross amount of the estate and the estate tax liability. In turn, this will often result in a bigger inheritance to the beneficiaries. Any property sold within the six-month period is valued on the date of the sale. When the estate is not subject to estate tax, it implies that the valuation date is the date of death.
Put everything into a trust
It would be best to suggest to parents or other family members to set up a trust to deal with their assets. This is very helpful especially if you are expecting an inheritance from them. A trust allows you to pass assets to beneficiaries without having to go through probate after your death. Notably, trusts are similar to wills but they generally avoid state probate requirements and the associated expenses.
The grantor can take the assets out if necessary with a revocable trust. According to our experts, an irrevocable trust usually ties up the assets until the grantor dies. In real life, it can be tempting for parents to put their assets into joint names with a child. On the other hand, this can actually increase the taxes the child pays in the near future. When an account holder dies, the joint holder not only inherits the assets, but also the source. Mainly, the IRS uses this fact to figure the asset’s taxable gain in value over the years. For long-held assets, it implies that there will be a significant tax hit when the child put up the asset for sale.
Reduce retirement account distributions
As per the US tax policy, inherited retirement assets are not taxable until they are distributed. Further, certain rules and regulations may apply to when distributions must occur, especially if the beneficiary is not a spouse. If a spouse dies, the surviving spouse takes over the IRA account as his or her own.
You can transfer the funds to an inherited IRA in your name if you inherit a retirement account from someone other than your spouse. However, there is a requirement to start taking minimum distributions the year after the inheritance.
If the decedent is older than you are, consider selecting the “single life” method of calculating the required distribution amount, based on your age. With this method, your minimum distributions will be smaller. This reduction means you will pay less tax on them and the money can grow and become tax-deferred.
Give away some of the inheritance
This move may seem counter-intuitive to some people. Nonetheless, sometimes it makes sense to give a portion of your inheritance to others, especially for charity. The tax deduction you receive for donating to a charitable organization could potentially offset the taxable gains on your inheritance. In general, giving away a portion reduces the total size of the inheritance. Consequently, this reduces the total taxable amount, reducing the total tax you pay on the inheritance.
Take out some life insurance
Taking out a life insurance policy will not necessarily reduce the amount of Inheritance Tax due on a property. Conversely, the payout may make it easier for your surviving family to pay the bill. It could mean that they are able to prevent the family home from being sold or auctioned. If you do this, make sure the life insurance payout goes into a trust. Failure to do this may make your estate bigger and it will have to pay more tax.
State taxes on inheritances vary. It would be better to check your state’s department of revenue, treasury, or contact a tax professional. Mount Bonnell Advisors are here for you! Do not hesitate to contact us for more information or any further assistance concerning Protecting Inheritance from Taxes.
